Glossary entry
Hedging means taking an offsetting position to reduce a particular exposure, such as changes in exchange rates, interest rates, or commodity prices. A hedge is evaluated against the underlying risk it addresses, rather than in isolation. It may sacrifice favorable outcomes, incur costs, or leave a mismatch called basis risk.
Illustrative example
An importer expecting to pay in dollars arranges a currency forward. The contract reduces uncertainty about the home-currency cost of that future payment.
What to consider
A hedge may be incomplete or become mismatched as exposure changes. It reduces selected risks without removing all possible losses.
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