Hedging Trading Strategy
Anything that maximizes the profit for a trader is welcomed with open arms, and that’s why forex trading is gaining momentum each passing day. Financial traders try everything possible to limit their risks while increasing the chances of winning.
There are several ways (you can say strategies, yes) of trading forex, but the most potent and viable approach to trade is hedging. This is one of the strategies as a trader you can’t afford to have.
But, what’s a Hedging Strategy?
First of all, to “hedge” is buying and selling two different instruments within a brief period. Hedging merely is mitigating the risk. It’s the position as a trader you can take to reduce exposure to the price movements.
There are several hedging strategies designed to minimize risks of the price movements against a particular open trade. For instance, if you smell a stock market crash or you want to protect your trades from the uncertainty of the market, the hedging strategies are at your disposal to give some peace of mind.
So, what are some of the hedging strategies?
Using Multiple Currencies to Hedge
When buying a currency, it’s always about buying one currency while selling the other. On the other hand, when selling, it’s about selling the first currency while buying the other. For instance, if you want to apply the hedging strategy, say you buy the USD/JPY, then you’ll need to buy also the EUR/USD.
In essence, you’re buying EUR/JPY as the USD cancels each other. To hedge the trade, you sell the EUR/JPY with the transactions forming a hedge. The reason being, on the EUR you both have a sell and a buy, similar to the USD and the YEN.
However, you should note the tricks that, on such hedging strategy, ensure to buy and sell those transactions which cancel each other.
Hedging Strategy Using Two Currency Pairs
As a forex trader, hedging strategies are unlimited. However, it’s essential that you first understand the relationship between the prices of various currency pairs.
Using two distinct currency pairs, which either have a negative relationship or positive correlation can help establish a hedge position. For example, if the EUR/USD has a negative correlation with the USD/JPY, it means you can go long EUR/USD and short on USD/JPY hedging your USD exposure.
Therefore, it means that if your EUR strengthens well against all the other currencies, you have a scenario whereby the move in the EUR/USD isn’t counteracted in the USD/JPY.
In conclusion, it should be clear that hedging isn’t a strategy that you can use to predict the way that a particular pair will go. Instead, it’s a method to utilize the prevailing market dynamics so that you can maximize the profits. Once hedging is done in the right way, it’s almost a guarantee that you’ll never lose that trade again.