In trading and finance, hedging is a strategy used to offset potential losses or gains in one investment by making complementary investments. The primary goal of hedging is to minimize or limit the risk of price movements in the market that could lead to losses.

Hedgers trade to secure the future price of the commodity (or financial instrument) of which they will take delivery, and later sell in the cash market. They need to protect themselves against future price risk.

RJO Futures

In Simpler Terms

Let’s say you’re planning an outdoor wedding, but there’s a chance it might rain. To hedge against this risk, you also reserve an indoor venue. If it rains, the indoor venue prevents your big day from being washed out. In the financial world, hedging works similarly—it’s like an insurance policy against market downpours, ensuring your investments can weather unexpected storms.

Hedging isn’t just for financial markets. Farmers use hedging to lock in prices for their crops ahead of the harvest, protecting against the risk of price drops. Similarly, airlines hedge against the risk of rising fuel prices by locking in prices in advance. 

For investors, hedging might mean investing in a variety of assets. If the stock market dips, the bonds in your portfolio might hold their ground or even increase in value, minimizing your overall loss.