To Hedge or Not to Hedge

With hedging, the tradeoff is as simple as choosing to be financially solvent and safe by hedging or buy cutting into your profits because you are overly cautious – not so simple.

Hedging is a normal part of our lives. For the most part, it is really as simple as choosing to carry an umbrella because it looks like it’s going to rain. With your stock investments, the cost of your decision is far greater than having to deal with the excess load or carrying an umbrella when you don’t need it.

One of the greatest costs being a loss on your profits. There is no clear cut answer as to whether to hedge or not when investing and because every hedge has a cost, you must ask yourself if the potential benefits would justify the additional expense.

This too is a risk as there is also the probability that you are on the wrong side of the hedge. To hedge or not to hedge depends on a myriad of factors ranging from your risk threshold, your expectation or outlook of the stock market, the required timeline, whether the investment is within your circle of competence, your age and health, and so on.

While you can attempt to forecast the expected return or loss of an investment, they are really difficult to predict especially over the short term. As such, the best you can do with your hedging tools are to manage/ curb risk as opposed to using it as a way to increase profits.

The first thing to note is that no decision should be made independently. There should already be a clear plan to make gains in the market while also managing cost. It is only after these are in place that you can decide whether you want to hedge or not and what portion or percentage of your investment you want to hedge.

When it comes to age, it is normal that those closer to retirement would be more pensive about losing their funds and would naturally be more risk averse than others. If this is you as an investor, minimizing your losses should be your focus. Hence, a good hedge position would give you the required peace of mind.

If you have a long way to go to retirement on the other hand, the longer term is a room full of possibilities. You can still navigate through without spending the additional funds to ensure safety.

Age isn’t the only risk factor to consider; sometimes, investors are not just good at handling risky situations. Since your risk threshold is in line with your investment objective, the decision would not be hard to make.

With hedging, the tradeoff is as simple as choosing to be financially solvent and safe by hedging or buy cutting into your profits because you are overly cautious – not so simple.

You must understand that as an investor, you are placed in a position where you can either lose or gain. As such, only you can make the decision of the measures to put in place. With proper research, sound financial advice, and a clear strategy, your position would be as clear as day.

Written by Lawretta Egba.