Hedging is a risk management strategy used by businesses and investors to protect themselves from potential losses caused by fluctuations in markets such as currency, commodities, interest rates, or stocks. Instead of aiming for higher profits, hedging focuses on minimizing uncertainty and safeguarding existing positions.
For example, an Indian exporter who earns in U.S. dollars may worry that the rupee will strengthen, reducing the value of future receipts. To protect against this, the exporter can enter into a forward contract with a bank to lock in today’s exchange rate. Similarly, airlines often hedge against rising fuel prices by purchasing futures contracts, ensuring stable costs.
Common hedging instruments include forwards, futures, options, and swaps. While hedging comes with a cost—such as premiums or lower profit potential—it provides stability and predictability, which are crucial for long-term planning.
In essence, hedging is like buying insurance: you may not eliminate the risk completely, but you reduce the impact of adverse movements. Companies, investors, and even individuals use it to create financial certainty in an uncertain world.