Classification of hedging strategies

According to its structure, hedging can be divided into a selling hedge and a buying hedge. A buying hedge is used when a trader plans to buy an asset in the future and strives to reduce the risks connected with increasing prices. A selling hedge is used when a seller wants to establish a fixed price for himself in order to hedge the risk of falling prices in the future.

The different classes of hedging strategies are as follows:

• full hedging (also known as risk-free hedging)
• selective hedging
• active hedging

Full (risk-free) hedging allows a trader to fully hedge the risks of adverse price fluctuations when dealing with the same volume and specifications.

Selective strategy hedging is hedging either a commodity with an analogous but not identical commodity on the stock exchange or with an identical commodity but not to the full extent. Selective hedging requires constant market analysis and studying the market trends; thus, it is a more risky strategy than full hedging.

Active strategy hedging implies that the decision whether to hedge or not is taken based on the current market conditions, forecasts and personal opinion. This is a highly risky strategy.

Derivatives are often used as hedging instruments. A derivative is a contract according to which the parties have the right to perform certain operations in relation to the underlying asset. As a rule, a derivative allows traders to buy, sell, provide or get a certain commodity, security or digital asset. The derivative price and the character of its fluctuations are usually closely connected with the price of the underlying asset, but they are not necessarily the same.

On the financial market, derivatives are futures contracts on the underlying asset. In the case of hedging with futures contracts and price growth, sold futures contracts will generate losses, but at the same time, the underlying asset will compensate for those losses, and the seller will make more profit by selling it at a higher price. In the case of falling prices, the sold futures contracts will generate profit, but the underlying asset will be sold at a lower price. As a result, the commodity price remains fixed, while the price fluctuations risk is limited and controlled.

Hedging will allow crypto-community members to reduce risks connected with operating in the cryptocurrencies market.

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