Hedge

A hedge is a transaction or position entered into to reduce or offset exposure to adverse price movements in an underlying asset. Hedging is a fundamental risk management tool used by producers, consumers, traders, and investors across financial and commodity markets.

In energy markets, a producer might hedge future oil production by selling futures or entering into swaps, locking in a price and stabilizing revenue. Similarly, an airline may hedge jet fuel costs to protect against rising prices. While hedging reduces downside risk, it can also limit upside gains.

Effective hedging requires careful alignment between the hedge instrument and the underlying exposure. Mismatches in timing, quantity, or pricing reference can introduce basis risk. Despite these challenges, hedging remains essential for managing volatility and ensuring financial stability in uncertain markets.