What is hedging

Hedging is a method used by traders to insure their investments or minimize loss in case the market evolves in a different way then they planned.

Often times this can be done with options, by buying a contract benefiting from movements opposite to that of the initial investment.

Hedging strategies are crucial to offset the counter effect the ebb and flow of stock market might have on your initial foresight. Summer 2011 was an example of how many people could benefit from hedging strategies.

Hedging allows to trade the market in more than just the two ways most stock traders know: up and down. With hedging we can profit from stable assets whose value does not change, or volatile assets whose value is unpredictable, but is sure to vary a lot, very fast. That gives us a four dimensional profiting spectrum.

We can reap a profit whatever the market does.

Example of hedging

The most basic hedging strategy is to buy a put to on a stock which we hold some assets of, what this will do is offset the downside the assets value may have before the expiry of the put. This must be done in a timely matter, and to be safe it is better to try this out a few times with “deep in the money puts”, so that in case the assets downside is less important than expected, there’s no considerable loss in the contract’s value.

Advanced hedging

For those already knowledgeable of options trading, you can also learn to hedge option greeks, to reduce the effect of these on the option’s price. One example of hedging option greeks is gamma hedging, or delta neutral hedging, both strategies to guard the position from volatility.

Hedging might be the reason you’d like to learn options trading. For some hedging strategies, as well as other more elaborate options trading, look in the options trading strategies section.


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