Forex Hedging Trading Strategies

                                                                 

hedging-forex

Hedging involves a low risk trading strategy not being too complicated at the same time aimed at protecting an investment against losses. Hedging is also used to protect against fluctuations in currency exchange rates. When applied in the right manner, hedging can enable a trader to make substantial gains, reducing overall risks at the same time.

In the event of the market falling down unexpectedly leaving the trader faced with sudden huge losses - when calculations go wrong - your currency pair reversing against your expectation; is a situation when hedging can be applied profitably with low risks. 

This means whenever you suspect that your pair of currency is most likely to reverse against your decision, hedging is the right way to save the situation.

The technique of hedging is very simple. The technique signifies - while holding a trade with one pair, simultaneously opening another trade with a different pair which is related to the first pair. The principle behind this is to reduce risks of loss considerably. This means, if one trade goes wrong, there still might be profit with the other one. 

Suppose, one has opened a position with USD. At the same time, he opens a reverse of that position i.e. USD. 

Now, if the first position goes against expectation, the second position will back up the first position and will give the trader still an opportunity to make profit and will also protect the trader from getting a margin call. 

If the principle of hedging is applied in the right manner, it's powerful enough to stand guard against losses and will save the trader from unexpected contingencies.

Hedging has two essential features which must be borne in mind :

• Hedging involves a cost

• There is no 100 per cent perfect or full proof hedging

• Hedging is no magic and cannot save oneself against whatever happens to the market or economy. 

• It's just a tool and using it wisely can reduce your potential damage in the event of sharp fluctuations in the price in future.

ADVANTAGES

Companies and institutions that have exposure to certain types of markets such as 'commodities market' use hedging as a way of protecting their funds.

Again, commodities producers tend to use hedge positions as a way of targeting fixed price for their produce in future.

If the price of a commodity declines, the hedge position will gain value and will save the producers against the decline in price. 

Flight operators and rail/road operators have to spend a large amount of funds towards fuels to keep their business running. Here, hedge is a perfect solution for these businesses for protection against steep hike in the prices of fuel. 

Similarly, hedging is also popular with offshore Oil & Natural Gas exploration companies to effectively seal their interest against unexpected plunge in the price of crude products. 


DRAWBACKS

Hedging is a way of safeguarding the financial interest of an organization but it's not free of cost. 

A position in hedge is always opened keeping in mind certain future contingencies. If the targeted contingencies never happen and everything goes well, hedging becomes counterproductive.

It bites off some chunk of profit and is unnecessary. Less profit is earned than what would have earned without a hedge.

Since, hedging considerably reduces exposure to future risk, the cost of hedging may be regarded like cost of 'insurance premium'.

We cannot foretell the future and we just anticipate.