Futures hedging refers to the trading activities in which the futures market is used as a place to transfer price risks, and futures contracts are used as temporary substitutes for buying and selling commodities in the spot market in the future to insure the prices of commodities to be bought in the future. The basic feature of hedging is that the same commodity is bought and sold in the spot market and futures market at the same time, that is, at the same time of buying or selling the real thing, the same amount of futures is sold or bought in the futures market. After a period of time, when the price changes make the spot trading profit or loss, the losses in the futures trading can be offset or compensated. Therefore, hedging mechanisms are established between "now" and "period" and between short-term and long-term to minimize price risk.

Generally speaking, it is very important, because when the futures contract expires, the spot price tends to be consistent with the futures price, but before the expiration, the basis changes regularly and seasonally, so traders have the ability to analyze the changes of the basis in the past to predict whether the basis may increase or decrease, so as to decide whether they are buyers or sellers, whether to sign or close positions, and reduce the risk of price fluctuations through the futures market.

Basis trading means that buyers and sellers agree to use the futures price of a month selected by one party as the pricing basis to buy and sell the spot at a price higher or lower than the futures price. They can ignore the changeable spot price and trade directly on the basis agreed by both parties. The value hedging of basis trading is an act of using the basis trading method to make profits by using the principle of buying wide and selling narrow when the basis changes irregularly.

Economic principle of hedging

Hedging can avoid price risk, because the futures market has two basic economic principles.

Convergence principle

The principle of convergence means that the futures price trend and spot price trend of the same commodity tend to be consistent or basically consistent.

The futures price and spot price of the same variety and the same subject matter are influenced and restricted by the same economic factors at the same time and space. Therefore, in general, the price trends and directions of the two markets are the same, but the price fluctuations may be different. Hedging is to take advantage of this price convergence relationship between the two markets, and conduct transactions in opposite directions in the futures market and the spot market at the same time, so as to make up for the losses in the other market with the profits of one market, thus avoiding price risks and locking in production costs and operating profits.

Chemotaxis principle

The convergence principle means that when the futures contract approaches the due delivery, under the action of arbitrage trading, the futures price and spot price gradually converge and tend to be consistent.

The delivery system in the futures market stipulates that futures contracts must be delivered in kind or in cash when they expire. If the futures price is inconsistent with the spot price at the time of delivery, there will be arbitrage opportunities between the two markets, that is, buying low-priced spot and selling it at a high price in the futures market, or reselling the delivered low-priced futures at a high price in the spot market. The arbitrage behavior of many traders buying low and selling high eventually narrowed the difference between futures prices and spot prices until they became insignificant and tended to be consistent.

From the above two principles, we can see that successful futures varieties and futures markets must be conducive to the realization of hedging, futures prices of trading varieties must be positively related to spot prices, and trading rules and delivery rules must be conducive to physical delivery and arbitrage.