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What is hedging and how to do it?
11 Answers
<p>Hedging is when you understand that equity price is going to come down ,say reliance ind. You have 250 shares , you can buy put option 1 lot, if price falls ,put option will give you compensatory gain, keeping your loss to minimum, strike price out of money nearby.</p>
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<p>The Hedging is a financial technique that helps to reduce or mitigate the effects of measurable type of risk from the future changes in the fair value of commodities, cash flows, securities, currencies, assets and liabilities. In other words, it is a risk-reducing tool wherein the firm uses the derivatives and other instruments to offset the future changes in the value of securities, currencies, assets, etc.</p>
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<p><br>There are many strategies of hedging. It depends upon your position what hedging should be deployed. for example if you sold naked puts and if you want to hedge you can buy lower value puts. Hedging is costly and it reduces your profits as well as risk associated with trade.</p>
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<p><br>I’ll take a simple example. Lets say a stock is trading at Rs. 100. You short a call of 110 strike & short a put of 90 strike, you give your strategy a room from 90 to 110, as long as it stays within the range you will not make any losses. This is called a short strangle. Do note that timing, strike selection, stock selection matters a lot.</p>
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<p id="isPasted">Hedging is a strategy that utilizes an opposite position in another asset to offset losses on investments. Hedging reduces risk, but it also reduces potential profits. As a result of hedging, one must pay a premium for the protection it provides.</p><p>Hedging techniques generally involve the use of derivatives, which are financial instruments. Options and futures are two of the most common derivatives. Using derivatives, you can develop trading strategies where a loss in one investment is offset by a gain in another.</p>
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