{"id":301,"date":"2020-02-25T11:49:42","date_gmt":"2020-02-25T11:49:42","guid":{"rendered":"https:\/\/www.invest19.com\/blog\/?p=301"},"modified":"2020-02-25T11:49:45","modified_gmt":"2020-02-25T11:49:45","slug":"hedging-with-futures-examples","status":"publish","type":"post","link":"https:\/\/www.invest19.com\/blog\/hedging-with-futures-examples\/","title":{"rendered":"Hedging with Futures &#8211; Examples"},"content":{"rendered":"<div style=\"margin-top: 0px; margin-bottom: 0px;\" class=\"sharethis-inline-share-buttons\" ><\/div>\n<p>Hedging is one of the key strategies available in the stock market that allows investors to mitigate the risk exposure to an adverse movement within their stock investments. The idea behind implementing the hedging strategy is to offset their risk exposure and limit themselves from any downward movement in stock prices. One can hedge his\/her stock investments with many different types of financial instruments such as futures, options, and other money-market instruments. Here, we will dig deeper into it and demonstrate some hedging examples elaborating hedging with futures, Nifty Futures, money-market hedge etc. <\/p>\n\n\n\n<div id=\"ez-toc-container\" class=\"counter-hierarchy counter-decimal ez-toc-grey\">\n<div class=\"ez-toc-title-container\">\n<p class=\"ez-toc-title\">Table of Contents<\/p>\n<span class=\"ez-toc-title-toggle\"><a class=\"ez-toc-pull-right ez-toc-btn ez-toc-btn-xs ez-toc-btn-default ez-toc-toggle\"><i class=\"ez-toc-glyphicon ez-toc-icon-toggle\"><\/i><\/a><\/span><\/div>\n<nav><ul class=\"ez-toc-list\"><li><a href=\"#What_is_hedging_using_Futures\" title=\"What is hedging using Futures?\">What is hedging using Futures?<\/a><\/li><li><a href=\"#Hedging_with_Futures_Example\" title=\"Hedging with Futures \u2013 Example\">Hedging with Futures \u2013 Example<\/a><\/li><li><a href=\"#Nifty_Futures_for_Hedging_a_Stock_Portfolio_Example\" title=\"Nifty Futures for Hedging a Stock Portfolio \u2013 Example\">Nifty Futures for Hedging a Stock Portfolio \u2013 Example<\/a><ul><li><a href=\"#Step_01_Find_Portfolio_Beta\" title=\"Step 01: Find Portfolio Beta\">Step 01: Find Portfolio Beta<\/a><\/li><li><a href=\"#Step_02_Calculate_Hedge_Value\" title=\"Step 02: Calculate Hedge Value\">Step 02: Calculate Hedge Value<\/a><\/li><li><a href=\"#Step_03_Calculate_the_Lot_Size\" title=\"Step 03: Calculate the Lot Size\">Step 03: Calculate the Lot Size<\/a><\/li><\/ul><\/li><\/ul><\/nav><\/div>\n\n\n\n\n<h2 class=\"wp-block-heading\">What is hedging using Futures?<\/h2>\n\n\n\n<p>Before\n<strong><a href=\"https:\/\/www.invest19.com\/blog\/what-is-hedging-in-the-stock-market\/\">understanding hedging<\/a><\/strong> using futures, you need to\nunderstand what is a futures contract? \u2013 It is a financial derivative or\nfinancial contract that obliges the buyer to buy and receive a particular stock\nor any other tradable financial security (underlying asset) at a predetermined\nprice at a specific point in the future while the seller obliges to provide and\ndeliver the underlying asset at the expiration date. <\/p>\n\n\n\n<p>Investors\nemploy the hedging strategy to hedge their stocks with futures to ensure their\nposition in the stock market is not affected by any adverse movement. As the\nsystematic and unsystematic risks encircling the investor, the hedging using\nfutures can benefit investors to \u2018hedged\u2019 himself\/herself against the systematic\nrisk that cannot be diversified. Hedge stocks with futures contracts eliminate\nthe uncertainty about the volatility in the future price of the underlying\nstock. <\/p>\n\n\n\n<h2 class=\"wp-block-heading\">Hedging with Futures \u2013 Example<\/h2>\n\n\n\n<p>To\nhedge stocks using futures, let\u2019s say have bought 4300 shares of Tata Motors at\nRs. 150.50 per share. The overall investment would be of Rs. 647150.00.\nClearly, you are in a \u2018Long\u2019 position on Tata Motors in the spot market. Once\nyou into the position, you came to the realization that quarterly results of\nTata Motors are expected soon or there is a macroeconomic risk of interest rate\ntightening that may affect the share prices of Tata Motors, as a result, the stock\nprice of Tata Motors may decline in value. So, to mitigate that risk in the spot\nmarket, you decided to hedge your position. <\/p>\n\n\n\n<p>In order to hedge your position in the spot market, you can simply counter it by taking a short position in the futures market. As you have taken a \u2018Long\u2019 position in the spot market, you will have to take a \u2018short\u2019 position in the futures market. <\/p>\n\n\n\n<p>    <strong>Tata Motors (Futures)<\/strong>    <\/p>\n\n\n\n<figure class=\"wp-block-table\"><table class=\"\"><tbody><tr><td>\n  Share Price\n  <\/td><td>\n  Rs. 151.00\n  <\/td><\/tr><tr><td>\n  Lot Size\n  <\/td><td>\n  4300\n  <\/td><\/tr><tr><td>\n  Contract Value\n  <\/td><td>\n  Rs. 649300.00\n  <\/td><\/tr><\/tbody><\/table><\/figure>\n\n\n\n<p>As\nyou can see that there is a variation in price while long on Tata Motors in the\nspot market and short on Tata Motors in the futures market. However, it is not\nmuch of a concern since you are in a neutral position which you are going to\nunderstand soon. <\/p>\n\n\n\n<p>After\nthe impact, let us arbitrarily imagine different scenarios in the stock price\nof Tata Motors and see what will be the overall impact on your positions. <\/p>\n\n\n\n<figure class=\"wp-block-table\"><table class=\"\"><tbody><tr><td>\n  <strong>Arbitrary Price<\/strong>\n  <\/td><td>\n  <strong>Long Spot\n  P&amp;L<\/strong>\n  <\/td><td>\n  <strong>Short Futures\n  P&amp;L<\/strong>\n  <\/td><td>\n  <strong>Net P&amp;L<\/strong>\n  <\/td><\/tr><tr><td>\n  140\n  <\/td><td>\n  140 &#8211; 150.50 = -10.50\n  <\/td><td>\n  151 \u2013 140 = 9\n  <\/td><td>\n  -10.50 + 9 = -1.50\n  <\/td><\/tr><tr><td>\n  155\n  <\/td><td>\n  155 &#8211; 150.50 = 4.50\n  <\/td><td>\n  151 \u2013 155 = -4\n  <\/td><td>\n  4.50 \u2013 4 = +0.50\n  <\/td><\/tr><tr><td>\n  160\n  <\/td><td>\n  160 &#8211; 150.50 = 9.50\n  <\/td><td>\n  151 \u2013 160 = -9\n  <\/td><td>\n  9.50 \u2013 9.0 = +0.50\n  <\/td><\/tr><\/tbody><\/table><\/figure>\n\n\n\n<p>Now\nthe point to note here is \u2013 irrespective of where the stock price move (whether\nit increases or decreases) your position will neither make money nor lose\nmoney. Here your position will be neutral without any market influence. This is\nhow one can hedge stocks using futures. However, to hedge your position perfectly,\nyou need to have the same number of shares as that of the lot size. If they\nvary, the overall Profit &amp; Loss will vary too. If that happens, you will no\nlonger be perfectly hedged. <\/p>\n\n\n\n<h2 class=\"wp-block-heading\">Nifty Futures for Hedging a Stock Portfolio \u2013 Example<\/h2>\n\n\n\n<p>Let\nus now demonstrate an example of hedging a stock portfolio by employing Nifty\nfutures. &nbsp;When it comes to offsetting the\nsystematic risk on a stock portfolio, the Nifty futures is the natural choice\nto hedge and mitigate the risk. <\/p>\n\n\n\n<p>Let\u2019s\nsuppose you have Rs. 7,00,000 rupees invested across following stocks \u2013 <\/p>\n\n\n\n<figure class=\"wp-block-table\"><table class=\"\"><tbody><tr><td>\n  <strong>Stock Name<\/strong>\n  <\/td><td>\n  <strong>Beta Value (Monthly-Two Year\n  Range)<\/strong>\n  <\/td><td>\n  <strong>Investment Amount (in Rs.)<\/strong>\n  <\/td><\/tr><tr><td>\n  <strong>Asian\n  Paints Ltd.<\/strong>\n  <\/td><td>\n  0.598\n  <\/td><td>\n  30,000\n  <\/td><\/tr><tr><td>\n  <strong>Bajaj\n  Auto Ltd.<\/strong>\n  <\/td><td>\n  0.895\n  <\/td><td>\n  1,25,000\n  <\/td><\/tr><tr><td>\n  <strong>Coal\n  India Ltd.<\/strong>\n  <\/td><td>\n  0.964\n  <\/td><td>\n  1,80,000\n  <\/td><\/tr><tr><td>\n  <strong>Gail (India)\n  Ltd.<\/strong>\n  <\/td><td>\n  1.20\n  <\/td><td>\n  65,000\n  <\/td><\/tr><tr><td>\n  <strong>Grasim\n  Industries Ltd.<\/strong>\n  <\/td><td>\n  1.48\n  <\/td><td>\n  75,000\n  <\/td><\/tr><tr><td>\n  <strong>HCL\n  Technologies Ltd.<\/strong>\n  <\/td><td>\n  0.704\n  <\/td><td>\n  85,000\n  <\/td><\/tr><tr><td>\n  <strong>Infosys\n  Ltd.<\/strong>\n  <\/td><td>\n  0.313\n  <\/td><td>\n  1,40,000\n  <\/td><\/tr><tr><td>\n  \n  <\/td><td>\n  <strong>Total<\/strong>\n  <\/td><td>\n  <strong>Rs. 7,00,000\/-<\/strong>\n  <\/td><\/tr><\/tbody><\/table><\/figure>\n\n\n\n<p>Source: <em><a href=\"https:\/\/www.topstockresearch.com\/index\/BetaValuesOfNIFTY_50Stocks1.html\">https:\/\/www.topstockresearch.com\/index\/BetaValuesOfNIFTY_50Stocks1.html<\/a><\/em><\/p>\n\n\n\n<h3 class=\"wp-block-heading\">Step 01: Find Portfolio Beta<\/h3>\n\n\n\n<p>&nbsp;The first thing you have to do is to calculate\nthe overall \u2018Portfolio Beta\u2019 by summing the weighted beta of each stock in your\nportfolio. <\/p>\n\n\n\n<p><strong>Weighted Beta = Individual stock beta *\nWeightage of respective beta &nbsp;<\/strong><\/p>\n\n\n\n<p><strong>Weightage = Sum invested in each stock \/\nTotal portfolio value<\/strong><\/p>\n\n\n\n<figure class=\"wp-block-table\"><table class=\"\"><tbody><tr><td>\n  <strong>S. No.<\/strong>\n  <\/td><td>\n  <strong>Stock\n  Name<\/strong>\n  <\/td><td>\n  <strong>Beta<\/strong>\n  <\/td><td>\n  <strong>Investment<\/strong>\n  <\/td><td>\n  <strong>Weight in\n  Portfolio<\/strong>\n  <\/td><td>\n  <strong>Weighted\n  Beta<\/strong>\n  <\/td><\/tr><tr><td>\n  <strong>01<\/strong>\n  <\/td><td>\n  Asian\n  Paints Ltd.\n  <\/td><td>\n  0.598\n  <\/td><td>\n  30,000\n  <\/td><td>\n  4.3%\n  <\/td><td>\n  0.026\n  <\/td><\/tr><tr><td>\n  <strong>02<\/strong>\n  <\/td><td>\n  Bajaj Auto Ltd.\n  <\/td><td>\n  0.895\n  <\/td><td>\n  1,25,000\n  <\/td><td>\n  17.9%\n  <\/td><td>\n  0.160\n  <\/td><\/tr><tr><td>\n  <strong>03<\/strong>\n  <\/td><td>\n  Coal India\n  Ltd.\n  <\/td><td>\n  0.964\n  <\/td><td>\n  1,80,000\n  <\/td><td>\n  25.7%\n  <\/td><td>\n  0.248\n  <\/td><\/tr><tr><td>\n  <strong>04<\/strong>\n  <\/td><td>\n  Gail (India) Ltd.\n  <\/td><td>\n  1.20\n  <\/td><td>\n  65,000\n  <\/td><td>\n  9.3%\n  <\/td><td>\n  0.111\n  <\/td><\/tr><tr><td>\n  <strong>05<\/strong>\n  <\/td><td>\n  Grasim\n  Industries Ltd.\n  <\/td><td>\n  1.48\n  <\/td><td>\n  75,000\n  <\/td><td>\n  10.7%\n  <\/td><td>\n  0.159\n  <\/td><\/tr><tr><td>\n  <strong>06<\/strong>\n  <\/td><td>\n  HCL Technologies Ltd.\n  <\/td><td>\n  0.704\n  <\/td><td>\n  85,000\n  <\/td><td>\n  12.1%\n  <\/td><td>\n  0.085\n  <\/td><\/tr><tr><td>\n  <strong>07<\/strong>\n  <\/td><td>\n  Infosys\n  Ltd.\n  <\/td><td>\n  0.313\n  <\/td><td>\n  1,40,000\n  <\/td><td>\n  20.0%\n  <\/td><td>\n  0.063\n  <\/td><\/tr><tr><td>\n  \n  <\/td><td>\n  <strong>Total<\/strong>\n  <\/td><td>\n  \n  <\/td><td>\n  <strong>Rs. 7,00,000<\/strong>\n  <\/td><td>\n  <strong>100%<\/strong>\n  <\/td><td>\n  <strong>0.851<\/strong>\n  <\/td><\/tr><\/tbody><\/table><\/figure>\n\n\n\n<p>As\nwe can see, the overall Portfolio Beta is 0.851. Let say, the Nifty index goes\nup by 1 per cent then the stock portfolio is expected to go up by 0.851 per\ncent and vice-versa. <\/p>\n\n\n\n<h3 class=\"wp-block-heading\">Step 02: Calculate Hedge Value<\/h3>\n\n\n\n<p>Now\nthat you have the correlation between the Nifty index and your stock investment\nportfolio, it is time to calculate the hedge value which is as: <\/p>\n\n\n\n<p>=\n0.851 * 7,00,000 = <strong>Rs. 5,95,700<\/strong><\/p>\n\n\n\n<p>Remember,\nthe stocks you have in your portfolio is in the spot market and your current\nposition is \u2018Long\u2019. So, Nifty Futures Hedging against your stock portfolio will\nbe a \u2018Short\u2019 position in the futures. The hedge value of Rs. 5,95,700\/-\nsuggests to short futures worth Rs. 5,95,700\/-. <\/p>\n\n\n\n<h3 class=\"wp-block-heading\">Step 03: Calculate the Lot Size<\/h3>\n\n\n\n<p>At\npresent, the Nifty Futures (one-month) is trading at 11834, and with the\ncurrent lot size of 75, the contract value per lot will be \u2013 <\/p>\n\n\n\n<p>=\n11834 * 75 <\/p>\n\n\n\n<p>=\nRs. 8,87,550\/-<\/p>\n\n\n\n<p>Hence,\nthe number of amounts required to short Nifty Futures would be <\/p>\n\n\n\n<p>=\nRs. 8,87,550\/- <\/p>\n\n\n\n<p>As\nyou can see that to perfectly hedge your stock portfolio, you would require the\nextra amount of Rs. 2,91,850 to buy 1 lot of Nifty Futures. If that amount is\nless than your hedge value then you will be under hedged but as in this case,\nif you hedge yourself, then it would be over hedged. Therefore, we cannot\nalways perfectly hedge the stock portfolio. &nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp;&nbsp; <\/p>\n\n\n\n<p>If\nthe hedge value and portfolio value was close, then similar to the previous\nexample, there be no loss or gain except a minor difference that can be\nignored. But, if you continue with the imperfect hedging like under-hedged or\nover-hedged then you may bear some loss or make some profits out of your net\nposition. But, that would offset the purpose of hedging to neutralize the adverse\nmovement in stock prices. <\/p>\n\n\n\n<p>But,\ntruth is, no one can hedge small positions whose value is relatively lower than\nthe value of Nifty Futures. However, to hedge such positions one have to hedge\nby employing Nifty Options. <\/p>\n<div class='epvc-post-count'><span class='epvc-eye'><\/span>  <span class=\"epvc-count\"> 24,377<\/span><\/div><div class=\"pld-like-dislike-wrap pld-template-1\">\n    <div class=\"pld-like-wrap  pld-common-wrap\">\n    <a href=\"javascript:void(0);\" class=\"pld-like-trigger pld-like-dislike-trigger \" title=\"\" data-post-id=\"301\" data-trigger-type=\"like\" data-restriction=\"ip\" data-ip-check=\"0\" data-user-check=\"1\">\n                        <i class=\"fas fa-thumbs-up\"><\/i>\n                    <\/a>\n    <span class=\"pld-like-count-wrap pld-count-wrap\">4    <\/span>\n<\/div><\/div>\n\n","protected":false},"excerpt":{"rendered":"<p>Hedging is one of the key strategies available in the stock market that allows investors to mitigate the risk exposure to an adverse movement within [&hellip;] <span class=\"read-more-link\"><a class=\"read-more\" href=\"https:\/\/www.invest19.com\/blog\/hedging-with-futures-examples\/\">Read More<\/a><\/span><\/p>\n","protected":false},"author":1,"featured_media":302,"comment_status":"open","ping_status":"closed","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[2],"tags":[53,54],"class_list":["post-301","post","type-post","status-publish","format-standard","has-post-thumbnail","hentry","category-stock-market","tag-hedging-with-futures","tag-hedging-examples"],"_links":{"self":[{"href":"https:\/\/www.invest19.com\/blog\/wp-json\/wp\/v2\/posts\/301","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/www.invest19.com\/blog\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/www.invest19.com\/blog\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/www.invest19.com\/blog\/wp-json\/wp\/v2\/users\/1"}],"replies":[{"embeddable":true,"href":"https:\/\/www.invest19.com\/blog\/wp-json\/wp\/v2\/comments?post=301"}],"version-history":[{"count":1,"href":"https:\/\/www.invest19.com\/blog\/wp-json\/wp\/v2\/posts\/301\/revisions"}],"predecessor-version":[{"id":303,"href":"https:\/\/www.invest19.com\/blog\/wp-json\/wp\/v2\/posts\/301\/revisions\/303"}],"wp:featuredmedia":[{"embeddable":true,"href":"https:\/\/www.invest19.com\/blog\/wp-json\/wp\/v2\/media\/302"}],"wp:attachment":[{"href":"https:\/\/www.invest19.com\/blog\/wp-json\/wp\/v2\/media?parent=301"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/www.invest19.com\/blog\/wp-json\/wp\/v2\/categories?post=301"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/www.invest19.com\/blog\/wp-json\/wp\/v2\/tags?post=301"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}