What Is Hedging?
Hedging means taking an offsetting position to reduce risk from an existing position — accepting a small, known cost to protect against a large, uncertain loss. It's insurance, not a profit strategy.
Simple Hedging Examples (F&O Context)
- Protective PUT: An investor holding a large equity portfolio buys NIFTY PUT options. If the market falls sharply, losses in the portfolio are partly offset by gains on the PUTs — at the cost of the premium paid, similar to an insurance premium.
- Covered position: Holding a stock while selling a CALL option against it (covered call) — caps upside but generates income and provides limited downside cushion.
- Futures hedge: An investor expecting near-term volatility can short index futures against a long equity portfolio to reduce net market exposure temporarily, without selling the underlying holdings.
Hedging always has a cost (premium, capped upside, or margin usage) — it should be used when protecting existing gains or reducing event-risk (e.g., before Budget Day or a major central bank decision), not as a routine habit that quietly erodes returns.