Forex is a
hybrid word that represents Foreign Exchange.
Hedging is a way to reduce the
amount of loss you would incur if something unexpected happened.Forex hedging is a transaction implemented by a forex trader to protect an existing or anticipated position from an unwanted move in exchange rates. By using a forex hedge properly, a trader who is long a foreign currency pair can be protected from downside risk, while the trader who is short a foreign currency pair can protect against upside risk.
A currency pair is a set of currencies that are being quoted against each other. In a currency pair there is always a quote currency and a base currency. The 1st currency in the pair is the quote currency and the 2nd currency is the base currency. When we render a forex quote for this pair, we are saying how much INR each USD is worth. If the quote is USD/INR 60 that says 1 USD is worth 60 INR.
Direct hedging is when you are allowed to place a trade that buys a currency pair (USD/INR) and then at the same time you can place a trade to sell the same pair (USD/INR). While the net profit is zero while you have both trades open, you can make more money without incurring additional risk if you
A forex trader can make a hedge against a particular currency by using 2 different currency pairs(Multiple currency pair). For example, you could go long USD/INR and short INR/Euro. In this case, it would not be exact but you would be hedging your INR exposure. The only issue with hedging this way is you are exposed to fluctuations in the USD and the Euro. This means if the USD becomes a strong currency against all other currencies, there could be a fluctuation in USD/INR that is not counter acted in INR/Euro. This is generally not a reliable way to hedge unless you are building a complicated hedge that takes many currency pairs into account. time the market just right.
A forex option is an agreement to conduct an exchange at a specified price in the future. For example, say you place a long trade on USD/INR at 60. To protect that position you place a forex strike option at 59. What this means is if the USD/INR falls to 59 within the time specified for your option, you get paid out on that option. How much you get paid depends on market conditions when you buy the option and the size of the option. If the USD/INR does not reach that price in the specified time, you lose only the purchase price of the option. The farther away from the market price your option at the time of purchase, the bigger the payout will be if the price is hit within the specified time.