Hedging involves in reducing risk in order to focus on another subject, while speculating involves taking on risk in order to profit from insight.
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Both can be explained with reference to signing a futures contract to deliver or buy a commodity at a future date. Hedging refers to locking in a future price for the commodity in order to minimize risk. It is a form of diversification, since typically the signer does not hedge with all of the product that he or she wants to buy or sell. Speculation, on the other hand, refers to agreeing to a futures contract in order to profit by taking risks. Since not all of the speculator's portfolio may not be at risk, this activity can involve diversification.
The verb to hedge can be used to mean avoiding a direct response, or it can mean counterbalancing against a possible loss (e.g. hedging one's bets). The second meaning is applied to investment strategy.Hedging is a process that is used to reduce risk of loss against negative outcomes within the stock market. Hedging is a similar concept to home insurance, where you might protect yourself against negative outcomes by purchasing fire and peril insurance. The only difference with hedging is that you are insuring against market risks and you are never fully compensated for your loss. This occurs when one investment is hedged through the purchase of another investment. Hedging is most useful under the following circumstances:- Those who have commodity investment that are subject to price movements can use hedging as a risk management technique- Hedging helps set a price level for purchase or sale of an asset prior to that transaction occurring- Hedging also makes it possible to experience gains from any upward price fluctuations to protect against downward price movements.
The concept of hedging is to reduce the risk of financial loss. Hedging originated out of the 19th century commodity markets. A hedge can include stocks, exchange-traded funds, insurance, forward contracts, swaps, and options.
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