{"id":238,"date":"2020-02-15T06:59:12","date_gmt":"2020-02-15T06:59:12","guid":{"rendered":"https:\/\/www.invest19.com\/blog\/?p=238"},"modified":"2020-02-15T07:01:09","modified_gmt":"2020-02-15T07:01:09","slug":"what-is-hedging-in-the-stock-market","status":"publish","type":"post","link":"https:\/\/www.invest19.com\/blog\/what-is-hedging-in-the-stock-market\/","title":{"rendered":"What is Hedging in the Stock Market?"},"content":{"rendered":"
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When we speak of the stock market, there are often\ndivisive thoughts about it. Some relate the stock market with risky ventures\nwhile some regard it as a perfect opportunity for long term wealth creation. The\nmarket dynamic is everchanging and the outcome is not always aligned with the\nprediction every time. This often puts an investor in a dilemma of whether to\nopt for the investment or not. <\/p>\n\n\n\n

Simply put, the investment allows a person an opportunity\nfor long term wealth generation whilst lessening the risks around and everyone\nwants a piece of it. But people are also fearful of the loss in case the market\nfluctuates. This is why any potential investor is always on the lookout for\nways to secure themselves from any impending loss that may arise out of the\nfluctuations in the market. That is where hedging comes forth as a viable\noption. <\/p>\n\n\n\n

Hedging is a widespread practice in the stock market and\nwe here look to brief you about it. But first, we\u2019ll start with what is a hedge.\nRead along. <\/p>\n\n\n\n

What is the meaning of\nhedge? <\/h2>\n\n\n\n

Hedge as a word means \u2018a way of protecting oneself against any financial loss or other adverse\nsituation\u2019<\/em>. It\u2019s an analogy that is related to developing ways to help\nreduce or control the exposure to any impending risk.<\/p>\n\n\n\n

Hedging is something that we can relate do in our normal\nroutine lifestyle. Taking insurance is also a form of hedging as it helps to\nmitigate any risks that may come up. For say, a person takes home insurance to cover\nagainst the natural disaster. For that, he pays a certain premium and if no\nsuch natural disaster occurs, he will not get the payout. That\u2019s something he\nhas to bear but in turn, he also gets to secure his home. By doing this he is\nusing hedging to control the exposure to risk for any damage occurring to his\nhome out of the natural disaster. That how\u2019s the concept of hedging works\naround. <\/p>\n\n\n\n

A hedge is one of the ideal moves against any risk and its something that\u2019s not just limited to the stock market as we saw above. But we\u2019re more focused on hedging in share market over here as our core area of concern.  <\/p>\n\n\n\n

What is Hedging in the Stock\nmarket? <\/h2>\n\n\n\n

On a common note, hedging is about controlling or\nlessening the risks. It\u2019s a widespread strategy used by investors and alike who\nlooks to maximize the gains and lessen any loss that may arise in the stock\nmarket.  Many investors in the stock\nmarket use hedging to help protect themselves against the fall in the price of a\nspecific stock or even portfolio of stocks. The stock market is filled with\nopportunities and equally brimming with risks. This is where utilizing various\ninstruments strategically can help to balance the adverse risk in the market.\nThis can be done by making another investment in a targeted way. That process\nis conducted as per the hedging strategies. <\/p>\n\n\n\n

It\u2019s one of the advanced techniques used in the stock\nmarket by the investors. And truth be told, the hedging technique is not just\nlimited to the stock market as other areas like commodities and even on\ncurrencies. <\/p>\n\n\n\n

Stock Hedging Example <\/h3>\n\n\n\n

For say you hold 1000 shares of a Company ABC bought at\nRs 100 each. The share, for now, is trading at Rs 120 in the market. You can\nbuy a put option contract for this so that you can rest assured about the loss\nif the share dips below the rate later on. Or you can also negotiate a future\ncontract for Rs 125 each for this stock and sell it later on at that time. <\/p>\n\n\n\n

Types of Hedging Strategies<\/h2>\n\n\n\n

There are broadly three different categories of hedging\nthat is used along and they are:<\/p>\n\n\n\n

  1. Forward\nContract<\/strong>: Forward contract refers to the agreement of buying or\nselling the assets between two parties at a pre-determined rate on an agreed\ndate. Forward contracts are used by many investors and traders alike who want\nto secure themselves against any impending loss in the future. This is normally\na non-standardized agreement and is often a private or customizable contract\nbetween two parties.  <\/li>
  2. Futures\nContract<\/strong>: This is a standardized agreement of buying or selling\nof assets at a defined price on the agreed date between two different parties. A\nfutures contract is offered on exchange funds where people can partake in and\nsecure themselves against any loss that may arise in the future. <\/li>
  3. Money\nMarkets:<\/strong> This refers to the part of the financial market where\nthe short term debt investments are traded on. Most of the trades that occur\nhere come with a maturity period of one year or less. Money markets hedge is\nnormally conducted in for the highly liquid financial instruments like treasury\nbills, commercial papers, banker\u2019s acceptance and more.  This helps to cover the amounts and provides\nflexibility. <\/li><\/ol>\n\n\n\n

    How to hedge in the stock\nmarket? <\/h2>\n\n\n\n

    When it comes\nto hedging in the stock market, it\u2019s about you can do so by these following\nways: <\/p>\n\n\n\n

    1. Asset Allocation:<\/strong> It\nrefers to the method of diversifying the investor\u2019s portfolio to create a\nbalance in the portfolio. For say, you can develop a ratio based on your\npreference and diversify it accordingly. That helps to keep the portfolio in\ncheck and provide a hedge against any loss that may arise out of any investment\ninstrument within the portfolio. <\/li>
    2. Structure:<\/strong> It\nrefers to the way of creating a balanced portfolio where you invest a certain\nportion into the debt-based instrument and the rest into the derivatives market.\nThat helps to keep a steady route in your investment portfolio. <\/li>
    3. Follow options based strategy<\/strong>: It refers to the way of utilizing the options, i.e.\ncall and put features to help hedge the investment. Herewith the basis of call\nand put you can either trade-off your asset without having to suffer an\nimpending loss. <\/li><\/ol>\n\n\n\n

      Everyone intends to invest with a view to gain returns from it. But with the market being ever dynamic and changing, the risk cannot always be diminished. So to mitigate the risks and create a safe side for any investor, hedging comes forth as a great option. And it’s rightly used by plenty of investors around. <\/p>\n

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