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Definition of 'Hedging'

Hedging is a risk management strategy that involves taking an opposing position in a financial transaction in order to offset the potential losses of another position.

In financial trading, the prices of securities and other financial instruments can be volatile and unpredictable. As a result, investors may use hedging to protect themselves from potential losses by taking an opposing position that will offset any losses that may occur in another position.

For example, a farmer who wants to protect against a potential fall in the price of corn may enter into a futures contract to sell their corn at a fixed price in the future. If the price of corn does fall, the farmer can still sell their corn at the higher price specified in the futures contract, which offsets their losses.

Hedging can involve taking a position in the same or a related financial instrument, or it may involve taking a position in a completely different asset class. It is often used in conjunction with other risk management strategies, such as diversification, to help investors reduce the overall risk of their portfolio.

Hedging can be used by a variety of investors, including individual traders, corporations, and financial institutions. It can help to reduce the risk of potential losses and provide a more stable investment portfolio. However, hedging can also limit potential gains if the market moves in favor of the investor's original position.

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