All of the stock market ► Intermarket hedge
Throughout its history, humanity needed tool allows you to insure risks. The term "hedging" is derived from the English word "hedge", ie, "to protect" is used to refer to a variety of risks insurance and investment methods. Hedging is used in various fields. Manufacturers are hedged, ie the fear of falling prices for their products. Investors are hedged against falling stock prices, which have been invested in their funds. It should be noted that along with the reduction of risk hedging and reduce the profitability of transactions. If you insure their positions, and they bring loss, they are covered by the income that you received in the futures market, but this same relationship is maintained and in the opposite case.
Each investor may be subject to the influence of two types of risks, "specific" and "system". Specific risk - is the risk that the price of an individual stock will decline, leading to huge losses for this particular stock. To reduce this risk quite simple, just need to diversify their portfolio through a wide range of stocks or exchange-trade funds based ETF shares. Diversification among a wide range of actions to protect only the specific risk, but the portfolio remains and systemic risk. This is the risk you are exposed to in the event of a general fall in the stock market, which leads to losses on all positions of your diversified portfolio. Reducing the risk associated with the possibility of falling market as a whole, is usually quite a challenge. Previously, it was necessary to open an account to trade futures, or Forex trading, and try to manage it, along with the management of your trading account in the stock market today, there are several ways intermarket hedge. A short position in the futures market against the underlying assets, hedging in precious metals (which implies a purchase of gold at an unfavorable time), buying futures unbound from asset currency. Also, it is possible to hedge using ETF. ETF or mutual funds, private investors, Exchange Traded today can be bought through a broker in major Western markets. Thanks to them, you can easily reduce the systemic risks of the trading account and take advantage of the large macroeconomic trends around the world, placing their assets not only in the stock market, but also in the Forex market.
Another way between market hedge is to buy all markets at once, that is, the distribution of funds in different assets, thereby diversifying the risk to them. Through global diversification an investor can achieve a lower risk, and higher incomes.
Hedging is a very important element of trading in the futures market. Derivatives can serve as a good tool when trading on the spot market, or directly in the conduct of business unrelated to the stock exchange. However, it should be understood that there is no perfect protection and futures contracts, in this respect, too, do not give a guarantee of 100%. In addition, it is important to see where it ends hedging and arbitrage or speculation begins.
The first attempts to insure trades have arisen at the dawn of trade relations. For example, in the Middle Ages, merchants, trying to insure against crop failure, were the contracts, which stipulates certain conditions on the deals. With the advent of exchanges, there were contracts that allow traders to find a contractor in advance and calculate the amount of possible profit regardless of market price fluctuations.
The growth of world trade in raw materials and food led to an increase in stocks of goods and, accordingly, to increase the capital at risk, and adverse changes in prices. This led to the creation of special methods of insurance or hedge against price risks.
Hedging - a reduction of risks and financial losses from adverse changes in market prices for commodities. Under the product means not only cash items, such as currency, metals, or, for example, agricultural products, but also, of financial markets instruments. In the second half of the twentieth century "hedging" was used exclusively for the removal of price risks. There is currently no removal risk appears to hedge and their optimization.
There are hedge buying and selling. Hedges of purchase, or a long hedge, related to the acquisition of a derivative that provides the buyer insurance against possible future price increases.
Suppose the company offers a certain order, which is associated with the implementation of a regular purchase of diesel fuel. Diesel prices are unstable and advance to predict at what price you are buying hard in the next quarter. How in these conditions to calculate the price of the contract, to make an offer?
For example, the current price of diesel fuel in the region of 26 600 rubles per ton. The investor knows that during the year will be regularly (1 time per quarter) to purchase 250 tons, but does not know at what price. He concludes futures contract is 1 000 tonnes at the current price and prolongs it regularly, if the price will increase - it will get profit on the futures contract and the difference to buy remaining diesel fuel on the spot market.
When hedge selling, short hedge or who sell in the market of real goods and the purpose of insurance against a possible price reduction is carried out sale of derivative instruments in the future.
To calculate the size of the position in the futures market to minimize basis risk using hedging ratio. This ratio of the value of purchased or sold futures contracts to hedge the value of the current value of the goods. In this way the "hedges" always go to a zero result, net of transaction costs.
According to some estimates, up to 90% of all contracts, such as Brent crude oil, does not lead to the actual delivery of the goods, it is on the one hand increases the liquidity of the market, and the other carries the danger of global collapse of the financial system, because if all investors are again willing to sell their futures, and during a panic is a natural reaction, price movements can be quite strong.
Historically, that buyers and sellers had to hedge against changes in prices of products in the future. The insurance price changes risk by entering into transactions on the futures markets, and is called "hedging." Today, in this way no longer possible to completely remove all of the risks and hedging mechanisms are used only for risk minimization.
There is a considerable amount of hedging instruments and, above all, it is necessary to classify them. Hedges - is insurance risk from price changes by entering into transactions on the futures markets. The most common type of hedging "futures contracts". This is the first type of hedging, which was used by traders in agricultural products in Chicago.
This is followed by "full hedging", it assumes the insurance risk in the futures market for the full amount of the transaction.
"Partial hedging", in turn, insure only part of the real deal.
"Anticipates hedging" involves the purchase or sale of fixed-term contract long before the conclusion of the transaction on the market of real goods. During the period of the transaction on the futures market, and prior to the conclusion of the transaction on the market of real goods futures contract is a substitute for the real contract to deliver the goods. This is one of the most common types of hedges in the stock market.
"Selective hedging" is characterized by the fact that the transactions in the futures market and the market of real goods vary in scope and conclusions of time.
And finally "cross hedging", its essence lies in the fact that in the futures market to make transactions with the contract on the underlying asset is not a real product market, and the other financial instrument.
Any trader hedge obliged to remember that this mechanism not only reduces the possible markets, but also profit.
Thus, investors who want to minimize their losses and consciously hedge risks should be understood as the profitability of the transaction is inversely proportional to risk. It should also be noted that, in general, to the above-described strategies resorted hedge funds operating with huge capitals.
Hedging options this exchange operation, the purpose of which is to fix the price of the underlying asset at the same level, thereby eliminating the risk of a possible adverse change in its value in the future, and the transactions are made at the same time with the option and the underlying asset…