What Is Hedging: Advantages And Key Features

By Author: madhav joshi
Total Articles: 20
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Hedging is an advanced financial strategy that works like insurance as it protects people from unnecessary risks against the negative. It is considered a safe option that will save your instruments from any negative event that is about to occur in the market. But, if in case you have opted for hedging, the impact of the negative event reduces the chances of risks.

Let’s understand with an example in a better manner:-

If we look around us properly, hedging is used in every corner. For example, if you have life insurance, you are hedging (protecting) yourself from death. In this situation, if something happens to you, the insurance company will provide your family with a lump sum amount of money (in return for premiums) on your death.

Let’s take a deep dive into hedging, in which we will cover the basic information about it.

What is Hedging?

Hedging is the process of purchasing one asset in order to mitigate the risk from another asset. Additionally, it is a risk management technique that minimizes the risk of losses or uncertainty. Oftenly, it is used in the trading market ...
... that protects from unforeseen losses in the price movements of financial instruments.

It's true that hedging does not cover the whole risk, but it can be manageable to some extent. A hedging strategy can be used to determine weather forecasts, commodities, interest rates, currencies and commodities.

Key Features of Hedging

Reduces the risk of losses to some extent
It enhances liquidity as it allows investors to make investments in a range of financial instruments
Secure Profits
Increases Liquidity in Financial Markets
Merchants can handle critical market conditions very well

Where Hedging Can Be Used?

You can use hedging anywhere, but it is commonly used in futures, options, contracts, commodities, stocks etc. These are the most common financial instruments that investors use for hedging to protect their instruments from losses.

Additionally, Hedging can be used by portfolio managers, investors, small-scale enterprises and MNCs, to reduce their risk level. It is true that, in reality, hedging is more complicated than life insurance.

Should I Opt For a Hedge?

Many investors and businesses believe that hedging is an important risk management technique that helps them to mitigate risks and fulfill their objective of earning profits. But, it is essential to know that hedging can play a double-edged sword role - when the investment is about to use hedge loss value, or it negates the benefit of the underlying increase in value.

On the other hand, many people believe that hedging is not an appropriate solution due to several reasons:-

Complex

Hedging is complex as it requires knowledge of advanced investment instruments such as bonds and options. For utilizing the hedging technique, first, you have to understand the whole concept of hedging as it is quite a challenging task.

Cost

Hedging requires an additional cost for taking on another position (such as buying option) as it incurs extra cost.

Concussion

Hedging advanced technique basically covers the losses to some extent just like insurance. But, it requires a deep knowledge of how to implement it while trading any financial instruments. Some people prefer to use it while others don’t want to use it because it is challenging to implement in the trading market. If you are a beginner, we personally suggest that don’t pt the hedging technique for trading or if you want to use this technique. Try to consult with online brokers InvestBy for a better understanding the hedging.
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