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<p>The questions answer is really vast in its scope. But without delving into each scenario about why one would hedge with futures or options, or any other derivative for that matter, it comes down to a decision that is based on funding (margin, collateral, etc.), belief/certainty of forward prices, risk need (am I kinda willing to take a risk here, OR...there is no way in hell I'm taking a risk here), correlation (symmetry with your underlying), liquidity of hedging instrument, blah, blah, blah.</p>
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<p id="isPasted">Scope of the question quite vast.</p><p>But if thought experiment is one merely protecting the invested interest, then</p><p>If the plan is to liquidate the underlying, you can use futures.</p><p>Near expiry or next expiry depending upon the requirement of liquidation.</p><p>If the plan is to keep the assets, then near expiry options are good, provided the expected case for hedge validate the decision to participate in the entry.</p><p>What are the causes of participation?</p><p>This can be anything that has the authority to move the price of the assets.</p><p>Usually in long term portfolio’s Investors are on buy side, …</p>
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<p>Hedging means protecting your investment usually by buying or selling derivatives (but hedging can be done using different financial instruments apart from derivatives). Suppose you have 10 thousand shares of SBI and you are expecting something very bad is going to happen in the market, in such case you buy some SBI option puts so that when SBI share falls badly you recover your money with the puts you have.</p>
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<p><br>By the term hedging, we mean a technique of managing price risk. It is used to minimize or eliminate the probability of substantial loss or profits due to movements in the price of the underlying asset (i.e. A commodity or financial instrument), suffered by an investor. This is possible only by holding contrary positions in two different markets to counterbalance the risk of loss. Therefore, if there is a loss/gain in the cash position because of the price fluctuations, it can be offset by the movements in the prices of a futures position.</p>
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<p>When an investor has an open position in the underlying, he can use the derivative markets to protect that position from the risks of future price movements. This is particularly true when the underlying portfolio has been built with a specific objective in mind, and unexpected movements in price may place those objectives in risk. </p>
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