There are two basic principles of hedging: futures prices and spot prices are basically synchronized. Give up a potential profit opportunity in order to avoid risks and lock in profits.

The following are two examples to illustrate:

One: You are the owner of a textile factory and receive an order. A customer needs to deliver a batch of fabrics in 6 months. Your raw material is cotton, and your calculated costs based on current cotton prices suggest it is profitable. So you buy cotton futures contracts in the futures market, and the purchase amount is equal to the order amount. Depending on the delivery date, you need to start production in a few months, so you buy the cotton you need in the spot market and sell cotton contracts in the futures market in an amount equal to the amount of cotton contracts you bought before. If cotton prices rise during these months, the cotton you buy in the spot market will be more expensive than before, meaning your costs have increased, but your transactions in the futures market will be profitable. Theoretically, profit and loss are basically balanced. This means that you have successfully avoided the risk of raw material price fluctuations and locked in costs. Conversely, if cotton prices fall, you will make a profit in the spot market but a loss in the futures market. Again, profits and losses even out. This is the price you pay for "avoiding risk and locking in costs": you give up possible additional profits.

Two: You are a farmer. Based on the current cotton price on the market, you think it is profitable to grow cotton and decide to plant a certain amount of cotton. Your product is cotton, so you buy cotton futures contracts for delivery in 6 months in the futures market, and the sales volume is equal to your planting volume. When the cotton harvest comes, you sell the cotton you planted in the spot market at the current market price and buy cotton contracts in the futures market. The profit and loss situation is the same as the above example. This means that you have successfully avoided the risk of product price fluctuations and locked in predetermined profits. As a trade-off, you give up potential additional profits.