Hedging

Hedging is an important risk-management tool for those traders that know how to use it properly. Hedging a trade allows you to maintain both a long and a short position on the same currency pair at a given time, at no additional margin. Holding two opposing positions at the same time offsets any risk because no matter which direction the market goes in, one of the positions will be showing a profit, and the other will always be running a similarly sized loss. Consequently, the trader does not lose or gain money due to market fluctuations on a hedged position.

Hedging an already open position involves placing an order for a new trade in the opposite direction. Normally, the two opposing trades cancel each other out, but with our hedging feature, both trades remain active.

Why would someone want to hedge?

Some traders utilize hedging as a means to temporarily offset losing positions until they believe the market direction has again turned in their favor. However, this strategy in effect locks in your losses from the original losing position if the market does not turn back in your direction.

An alternate method amongst traders using the hedge feature is to lock in profits. A need may arise to lock in profits when a trader sees a short term market move that goes against an open position that he or she is already holding.

For example, let’s say a trader buys GBP/USD because they identified a long term uptrend in the pair favoring the British Pound. Because the pair does not climb in a straight line due to natural market fluctuations, there are times when the US dollar does better, creating short term downtrends within the longer British Pound uptrend.

The trader already has an open long GBP/USD position, now he or she may want to short the pair during such a downturn. Without hedging, the trader would just close his or her original long position, short the pair, and when the short term trend reverses, rebuy another long position.

With hedging, the trader can offset his or her open long GBP/USD position by concurrently opening a short position. Both will remain separate and active. As the short downtrend progresses, the long position will be losing money, while the short hedge position will be gaining. When the trader believes that the downtrend is over, he or she will close out the short GBP/USD, at a profit. Assuming the long upward trend now continues the original long position will again begin to make money. However if the upward trend does not materilaize, and the market continues to move down against your long position, the position will lose money.

Hedging gives a trader added position management potential, along with extra flexibility in combating changes in the direction of the market. It is important that you fully understand how hedging works and how to properly use it before placing any hedge orders. Hedging is an additional feature we have added for the benefit of our clients, and is by no means a required action.

To hedge in VT Trader, simply right click on an open trade and select the hedging option; an identical position is opened in the opposite direction. This new position does not require extra margin and can be closed at any time. You can also place a hedge order by checking the hedge box on a new open position window. This will make sure your newly opened position does not close out any existing positions that are aligned in the opposite direction.

Note: Though clients will not incur any gains or losses on hedged positions due to market fluctuation, clients may incur minor losses on hedged positions due to rollover interest charges. Clients may also incur minor gains or losses on hedged positions due to changes in the value of previously incurred gains or losses that may arise due to a change in pip value on positions held in currency pairs where the counter currency is not the denominating currency of the account. Such losses are usually limited to a few cents per day or a few dollars or cents per standard lot. For example a client that hedged a USD/JPY position with a previously incurred gain or loss of 100 pips may gain or lose around $8 if USD/JPY moves by another 100 pips.