An Explanation Of Hedging Forex
One type of strategy that is used often by experienced traders of the market is known as hedging forex. The novice to the market most likely will have never even heard of this term before. On the other hand, those who have been around a while are probably using this to their advantage and have been for a while. What hedging does is deal with both buying and selling pairs of currency and provides some protection from the ups and downs of the market.
You can think of this concept in the same way you would purchasing car insurance. With insurance you purchase a policy to lower the cost of recovering from an accident. Although you can not purchase complete coverage of course. The same for hedging, you covered to a certain extent but there is no way to get complete protection. It essentially protects the position of the currency pair from down or upside risks.
Forex traders use a wide variety of different strategies to help them, but the most common one is using derivatives. In the forex market this is referred to as a futures contract. It is like a normal contract except that currency is being traded instead of a stock. With this there will be some type of agreement to either buy or sell the currency at a specified price on a set date.
Using multiple currencies is also a popular choice. In this strategy the trader holds two pairs. When one pair is experiencing too much fluctuation to profit from the other one is then used to offset the loss. Short and long term position are both held here at the exact same time.
May traders also choose to use interest rates as a tool on the market as well. With this they would acquire multiples of the exact same currency except through different brokers. One of their brokers will charge them interest and the other will not. If the market is going up you can see a benefit from both brokers you are working with but if it is going down you are only out the cost of interest to just one broker.
Hedging can be a very complex practice so it is typically suggested that only veteran traders use these types of techniques. The beginner usually doesn't have enough knowledge about the market trends to be successful with these ventures.
Article Source: FxTradingStock.com
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by: Richie Brawn
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Date: Wed, 21 Apr 2010
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