Hedging

Hedging

1. it is

   • a process for managing risk and achieving objectives

2. methods

   • Contractual agreements
     • nonstandardized agreements between two parties
   • Forward contracts
     • transfer of commodities, securities or currencies at a specified time in the future
   • Futures contracts
     • standardised instrument regulated by external bodies
   • Options contracts
     • unilateral contract where the buyer has the right, not the obligation to exercise

3. types

   • long hedge
     • is a buy position
     • physical and financial
   • short hedge
     • is a sell position
     • physical and financial

4. concepts

   • time
     • identifies the length of temporal distance between two decisions
   • interest
     • positions can either cost or earn interests
   • volatility
     • considers the potential of change; it is the statistical variation about a mean
   • time value of money
     • it dictates the financial feasibility of basis trades

5. properties

   • economic validity
   • reasonable correlative movements
   • convergence
   • consistent basis behavior