If you are an active trader, then hedging is an important derivative option that can be availed. Hedging gives you an option to control your future by taking an opposite or equal stand in order to book profits or prevent losses that may occur in future. The fundamentals of hedging remain the same, whether you exercise them in forex market or commodity market.
The only cause for concern in the case of a Forex hedge is that you are dealing with currencies. Currency is undoubtedly one of the most volatile asset class right now. As a forex trader, it is important to ensure that while protecting yourself from the downfall of one currency, you do not end up exposing yourself to the pitfall of another. It is almost like a double-edged sword and hence, steps should be taken with caution.
Take Steps with Care
In the case of hedging, one needs to be extra cautious. The fact that you are buying and selling at the same time means that while on one hand, you are ensuring that you do not incur losses, you are also ensuring that if the market rises, you do not earn profit beyond a certain limit. This phenomenon is being caused, as you are setting a ceiling for your investments. So, under no circumstances can you earn more profits than the amount that you have already decided for yourself. Although, it is good in many ways the hitch comes with the fact that you have already curtailed the amount of profit that you can make out of this deal. Deciding the amount and number to buy is called Spread and the amount of profit that you will earn depends on your Spread type.
In the case of Forex, trading is done in pairs. For example, you buy dollars against Yen and so on. The moment you are not comfortable with the pair you are holding, you can hedge them against another currency that you think is promising, like Euro. Hedging would indeed help you to keep your losses at bay and also give you more confidence to trade frequently and generate profit.
However, if the above-mentioned steps are not taken properly, then you may end up in trouble. This is because of the simple fact that while curtailing your exposure in Yen market, you have ended up exposing yourself to the Euro market and so on. In short, it is a tricky situation that might go wrong unless you take calculated steps.
As a novice, you should try and stay away from the clutches of Forex hedging. As already mentioned, Forex hedging is a calculated move that should only be tried by the experienced and not novices who are trying to understand the market. Always ensure, that you consult your Forex broker before opting for hedging or you can also opt for the more easier options like call and put.