What is Hedging?

The best way to understand hedging is to think of it as insurance. When people decide to hedge, they are insuring themselves against a negative event. This doesn't prevent a negative event from happening, but if it does happen and you're properly hedged, the impact of the event is reduced. So, hedging occurs almost everywhere, and we see it everyday.

For example, if you buy house insurance, you are hedging yourself against fires, break-ins or other unforeseen disasters.It is simply taking a buy or sell position in a futures market opposite to a position held in the cash market to minimize the risk of financial loss from an adverse price change.

Hedging is a risk strategy whereby investors and traders take offsetting positions in an instrument to reduce their risk profile. The practice usually involves taking both a long and a short position in an instrument and so, usually, necessitates using financial derivatives with which it's possible to short reduction sell.Hedging strategies are also employed by professional fund managers to control the risk exposure of large managed funds.

In this context, hedging is a more complex process as it involves a whole portfolio of different investments - each with its own unique risk/return profile.Making an investment to reduce the risk of adverse price movements in an asset. Normally, a hedge consists of taking an offsetting position in a related security, such as a futures contractAn example of a hedge would be if you owned a stock, then sold a futures contract stating that you will sell your stock at a set price, therefore avoiding market fluctuations.

Investors use this strategy when they are unsure of what the market will do. A perfect hedge reduces your risk to nothing (except for the cost of the hedge).

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