Investing 101
1:15
What is Hedging in Investing? | Hedging Explained
Investing brings with it a certain amount of risk. In this video, Titan's Emily Cherkassky explains hedging and how it can help minimize risk.
Video Transcript
Investing inherently involves some level of risk. But oftentimes investors try to minimize their downside risk and potential losses through hedging or strategically buying assets to offset the existing risk of their portfolio. For example, let's say I buy a stock in a company that I think will do well in the long run. The stock has done well, and I want to keep holding on to it, but I'm scared that it could fall in the near-term due to bad news, supply chain issues, whatever it may be. I can hedge out the potential downside risk by buying a stock option that gives me the right to sell the stock for a specific price in a specific period. This is known as a protective put.
This will protect me from any short term declines in the company's stock price because I have a guaranteed option to sell my stock for a given strike price. Hedging for an investment portfolio is like insurance. It can be costly and it may not make you richer in the end, but it can protect you from extreme risks like market turns, inflation and rate hikes. Because people are naturally risk averse many investors will even hedge their portfolios, expecting to lose money on the hedge component simply to minimize their losses in huge market swings.
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