This strategy involves taking an offsetting position in a related security, such as options or futures, to mitigate potential losses. Hedging allows investors to protect their portfolios against market volatility and uncertainty while still participating in potential gains. It can be executed through various financial instruments, enabling investors to tailor their risk exposure according to their specific needs and market conditions.
Hedge Example
For example, an investor holding shares in a technology company might purchase put options on those shares. If the stock price declines, the put options increase in value, offsetting the losses from the shares. This strategy helps the investor limit losses while still benefiting from potential price increases.