Opening an offsetting position to reduce risk on an existing trade — sacrificing some upside to limit downside.
Hedging is the practice of opening a second position to offset the risk of an existing one. In forex, the simplest hedge is opening a short position in the same pair you're already long — your net exposure becomes zero. You can also hedge with correlated pairs or with options.
Hedging reduces risk but also reduces potential profit. If you're 50% hedged, you only capture 50% of any further upside — but you also only suffer 50% of any further downside. It's a risk-management tool, not a profit-maximization tool.
Most retail brokers in the US don't allow direct hedging on the same account due to FIFO rules. International brokers usually do. The pros use hedging mostly to protect open positions through high-impact news events without closing the underlying trade.
During the Aug 2024 yen carry-trade unwind, many institutional traders hedged USD/JPY longs with USD/JPY options puts to protect against the gap risk. The hedges paid off massively when the pair dropped 800 pips in three sessions.
Frequently asked about hedging
What is a hedging in trading?+
Opening an offsetting position to reduce risk on an existing trade — sacrificing some upside to limit downside.
When will I see hedging used in real trading?+
Around major news events, during weekends with open positions, and in institutional risk management. Less common in retail.
What is the most common mistake traders make with hedging?+
Hedging with a correlated pair instead of the original pair. The correlation isn't perfect — your "hedge" can fail in unexpected ways. Direct hedges are cleaner.
What do experienced traders know about hedging that beginners don't?+
Don't hedge as a substitute for closing a losing trade. If a position has gone against your thesis, EXIT — don't hedge to delay the pain. Hedging losing trades is just denial with extra commissions.
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