What is Long hedge, Short Hedge and Cross Hedge?

General
2

Hi,

Long hedge: In a scenario where we expect the market to go up in the near future and we expect to receive funds in the future, and wish to invest these funds in the securities market, we can hedge this position in the cash market by going long in the futures market.
This hedge will bear the cost of acquiring the securities at a higher price in the future as this excess amount would be compensated by the profit made on the position in the index futures. On receipt of the funds, we may invest in the cash market and also unwind corresponding index futures position.

Also, while investing, favorable securities at reasonable prices may not be available in sufficient quantity. Investing entirely in this case would drive up the stock prices to our disadvantage. We can eliminate this risk by buying futures today and gradually investing money in the cash market by unwinding portions of the corresponding futures position.

Short hedge: In a scenario where one holds a portfolio of securities and wishes to liquidate in the near future, but the prices of these securities are expected to go down in the near future, one can go short in the futures market. This hedge will protect the portfolio value as the amount of loss made in the cash markets will be compensated by the profits in the futures position.

Taking an ex. from the currency market, assume a company A in the export and import business. The company expects dollars to flow in after 6 months but there is an expectation of depreciation 
in the dollar in relation to the local currency over this time. The company can then sell dollars in the futures market which will compensate the loss due to the fall in dollar price against the local currency.

Cross hedge: In a scenario where futures contract on a certain asset is not available, to protect the value of their asset in the cash market, market participants find an asset that 
is closely associated with their underlying and hence using the futures of that closely associated asset.

For instance, if futures on jet fuel are not available in the international market then hedgers may use contracts on other available energy products like crude oil or gasoline 
due to its close association with jet fuel for hedging purpose.

2 Likes
3

Dear Bharat

Can you tell me how to execute hedge trade in futures? As i can see in zerodha margin calculator, total margin required is less amount after deducting margin benefit. But while i execute order either buy or sell for the first time, then should i have total amount to execute the order? (i.e full margin of 1 lack)

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I would like to know if the option hedging is enabled for my account so that I can utilize the margin pl let me know thanks

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You don’t have to do any additional step to hedge your positions. If you’re new to F&O trading, would suggest you read modules on Futures and Options on Varsity before trading. Will help you understand all the concepts :slightly_smiling_face: