For example, an import company ordered a refrigerator production line in Japan. The price quoted by Japan is 1 200 million yen, and1USD 120 yen is equivalent to10 million USD. Import companies are worried that the yen will appreciate sharply in the future settlement, and the actual price may become11million dollars or even12 million dollars. Therefore, when signing a contract with Japan, it immediately purchased Japanese yen futures equivalent to 1 0/0/20 USD at the bank.
In this way, even if the yen appreciates sharply in the future, the extra dollars paid for delivery to the production line can be recovered in the yen futures contract without losing the budget.
This practice is hedging. In finance, hedging means that one investment deliberately reduces the risk of another investment. This is a way to reduce business risks while still making profits from investment.
This is because the world foreign exchange market is based on US dollars. All foreign currencies rise and fall with the US dollar as the relative exchange rate. A strong dollar means a weak foreign currency; If the foreign currency is strong, the dollar will be weak. The rise and fall of the dollar affects the rise and fall of all foreign currencies.
Therefore, if you are optimistic about a currency, but want to reduce the risk, you need to sell a bearish currency at the same time. Buy strong currency and sell weak currency. If the estimate is correct, the dollar will weaken and the strong currency bought will rise. Even if the estimate is wrong and the dollar is strong, the currency bought will not fall too much. The weak currency sold has fallen sharply, with less losses and more gains, and it can still be profitable on the whole.
The role of hedging
Many investors regard hedging as a way to "lock in risks" and hedge when they are not sure whether to hold or close positions. In fact, this is a bad habit.
A proverb about trading is: "When you can't see the direction clearly, leave the market and wait and see", so if you hedge because of confusion, then we should take confusion as a reason to close the position, instead of locking ourselves in the market.
Most traders regard hedging transactions as two independent transactions, which makes investors pay twice the transaction cost. It is also very attractive for novices to use hedging instead of liquidation, because hedging will make people feel that they are trading and participating in the market, rather than staying out of it. This sense of participation is the psychological demand of many novices, and traders use this psychological demand to induce investors to pay more transaction costs. In fact, the NFA prohibits the hedging function precisely because it may cause additional transaction costs to investors.
In fact, the significance of hedging trading function is that when we operate several trading systems in one account at the same time, sometimes the two trading systems will send opposite trading signals to the same currency pair. If the account has no hedging function at this time, orders in opposite directions will cancel each other, making the strategy unable to operate normally.