We use cookies to give you the best possible experience on our website. By continuing to browse this site, you give consent for cookies to be used. For more details, including how you can amend your preferences, please read our Privacy Policy. It is a very common type of financial transaction that companies conduct on a regular basis, as part of doing business. Companies often gain unwanted exposures to the value of foreign currencies and the price of raw materials.

As a result, they seek to reduce or remove the risks that come with these exposures by making financial transactions. In fact, financial markets were largely created for just these kind of transactions - where one party offloads risk to another. An airline might be exposed to the cost of jet fuel, which in turn correlates with the price of crude oil.

Foreign currency risk management in today’s volatile currency environment: PwC

Companies will hedge in various markets, to offset the business risks posed by these unwanted exposures. This would protect the company against the risk of increased costs from a rise in the price of oil.

When the futures contracts expire, the company would take physical delivery of the oil and pay in US dollars. Therefore, there's a strong likelihood that the company would also choose to hedge its risk in foreign exchange. As an individual, you may find yourself in a position where foreign exchange hedging might be an attractive option.

For example, let's say you live in the UK and have invested in Nintendo shares, sitting on a healthy profit after the success of Pokemon Go.

If you are interested in doing something like this, try it out yourself with MT4 Supreme Edition. Now, continuing with our scenario - what if you wanted to keep hold of your shares in the hope of running your profits further? You might be happy to run such an exposure, hoping to make additional profit from the yen strengthening. The amount you make from your foreign exchange risk hedging, should offset the negative impact of the weaker Yen on your equity trade.

In reality, there is the complication that the currency risk fluctuates as the value of the shares changes. But, there may be times where you may only want to temporarily or partially reduce your exposure. Let's look at another example - say that you hold several FX positions ahead of the Brexit vote.

Overall you are happy with these as long-term positions, but you are worried about the potential for volatility in GBP going into the Brexit vote. Rather than extricating yourself from your two positions with GBP, you decide instead to hedge. Alternatively, you might hedge some smaller amount than this, depending on your own attitude to risk.

Another, slightly less direct way of hedging a currency exposure is to place a trade with a correlated currency pair. The Correlation Matrix that comes bundled with MetaTrader 4 Supreme Edition , allows you to view the correlation between different currency pairs. If you find a currency pair that is strongly correlated with another, it is possible to construct a position that is largely market neutral.

What Is Forex Hedging?

The concept of combining correlated positions in order to offset risk, is where Forex hedge funds originally got their name. If you are interested in trying to construct a market neutral strategy, you can experiment risk free with our Demo Trading Account. But if the market moves in your favour, you make less than you would have made without the hedge.

Learn more about How to use a Forex hedging strategy to look for lower-risk profits. Trading foreign exchange or contracts for differences on margin carries a high level of risk, and may not be suitable for all investors. There is a possibility that you may sustain a loss equal to or greater than your entire investment. Therefore, you should not invest or risk money that you cannot afford to lose. You should ensure you understand all of the risks. Before using Admiral Markets UK Ltd services please acknowledge the risks associated with trading.

The content of this Website must not be construed as personal advice. Admiral Markets UK Ltd recommends you seek advice from an independent financial advisor. Admiral Markets UK Ltd is fully owned by Admiral Markets Group AS.

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Foreign exchange hedge - Wikipedia

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