What's the point of hedging?

With respect, you've missed the point.

The illusion behind 'hedging' is explained in this thread, summarized here. It can be demonstrated easily enough that any set of trades can be replicated, pip for pip, without 'hedging'. Merlin has offered $100,000 to anybody who can devise a 'hedging' scenario that can't be replicated.

I've no desire to debate this all over again; let's just agree to disagree. People either see 'hedging' for what it is, or they don't.

I've already agreed with you. Hedging is only a tactic. It can be replaced by other methods as well. it depends on what one likes. I just think there is a psycological advantage by hedging. nothing more.

Merlin's offer is very generous but I prefer "hedging". it's much more profitable.
just kidding.

So called 'hedging' is something thats promoted as a fantastic way of parting retail forex traders from even more of their deposits thanks to additional spread and unfavourable swap rates. If I were a broker (or a forex educator who was an introducing broker) I'd certainly be encouraging people to adopt this policy. In reality, check out all the benefits, risk reductions and costs in a spreadsheet compared to straightforward positions. You'll find risk is the same (assuming disciplined exits of losing trades), and costs are greatly magnified.

Its main source of popularity is that, like averaging down, its a great way of putting your head in the sand instead of closing a losing position and moving on, or giving yourself the thrill of closing a few more trades.

Quite an interesting subject...
personally i do hedge my position but basically not to make any profits...but mainly to recover from my bad position and to hold to the account long enough so i could play another trade to increase my equity and sooner or later either i'm closing with a bit of profit or zero loss...that it.no more and no less and sometimes with a bit of loss but still my equity is increasing....but the most important thing you must know the direction of the market.yes..not all the time, if yes i won't be in a bad trade from the beginning.
understandable...that some people are not comfortable with hedging...(and i used to have that type of feeling) but the most important thing is you'll make a profit out any system that you are comfortable with.
hedging is a tools for trading...either you use or not.good day!

Hedging with two spot Forex positions doesn't make much sense, but hedging with Forex Binary Options makes perfect sense.

For example, you can buy a Spot Forex position and risk $100, and then sell a Binary Forex Option in the opposite direction for $10. If the Binary position closes above the strike then you have just earned $90 in profit to limit your loss on the Spot Forex side. If your Spot Forex position wins, then you have lost only $10 on the binary option side.

Total risk with a Spot Forex Hedge = $200

Total risk with a Spot Forex/Binary Option combo = $110.00

Sorry for my question but could you describe your example in more detail or with pictures? What is "spot forex"? Where do I get this Binary Option combo?

Same-pair hedging is useless, but synthetic hedges have their uses, especially when many pairs are involved. One would think the exchange rates of pure synthetic hedges would always stay arithmetically equivalent at any given timepoint snapshot, but they do not at all times. Distortions occur at occasional timepoints.

However, timepoint distortions in equivalence are very fleeting and difficult to exploit. If I worked for a broker, I could write code that would ensure presentation of exchange rates showing few or no equivalence distortions across all combinations of pure synthetic hedges, and it becomes even easier if I get to play with the spread at will (the preferred route I think). This is probably already in place, widespread. I had to use a significant amount of brute force to unveil any distortions at all over 14 currency pairs, and the ones that did occur, occurred for only a few seconds.

Moving out of the single-timepoint view now...over time, pure synthetically hedged pairs' exchange rates stray away from common timepoint opening exchange rates to varying extents. One might conclude that tracking these movements before entering trades might successfully predict "necessary" adjustments on which one can capitalize. But the market does not act like that consistently enough to hang one's hat on such a strategy.

All of the above is not conjecture on my part. It's based on monitoring many pairs' movements and single-timepoint distortions over time.

Once one has objectively measured these things, one gets a broad understanding of the currency market's behavior and insight into the few types of strategies that could use hedging constructs as a framework for profit.

Same-pair and few-pairs approaches will yield frustration and futility.

I'm not going to read 10 pages of argument, but I will give my two cents on this issue since it seems to come up weekly...

The only time a same pair hedge is useful is if I have a long term long open and want to go short for the near term while not losing my position on my long term trade. I don't do this often, but I have at times in the past...forex can be boring at times so stealing a few pips on a 5 min chart while I hold other positions is beneficial.

Pretty simple really...I don't understand why so many people, some even 'prominent' members of this board, question hedging...it has its uses.

Quoting myself....well my statement is not 100% true. A same-pair hedge can save your bacon. Let's say you put on a EURUSD short as the market goes strongly against a EURUSD long you opened earlier.

The market hits a place where your losing long trade would have made your account margin out, but if you did this when a same-size same-pair hedge was allowed and when it cost you no further margin, you would NOT have margined out.

And in the happiest scenario, the market could move back to where your hedged position could be closed at break-even, then move back further to where your original long could be closed for profit.

So, you COULD have made a profit with the same-pair hedge versus getting a margin call in the form of your long being closed for a big loss.

But COUNTING on this happening is a poor element of a trading strategy.

In your example you net 0 units by "hedging" your position.

If you've "hedged" your position and the spread increases dramatically, you're actually at risk for a margin call. You also paid the spread twice.

Lets say you closed your long EURUSD trade instead. You also net 0 units but now you can't get a margin call.

Think about it.

No offense, but you've answered your own question.

Fair enough.
I skimmed some, read your rant on page 5. Am I to assume you're in the 'hedging is worthless' crowd?

So you have never been in a long-term long position in profit and played a short-term retracement with a short in which your long was effectively hedged for a short period of time? Really??

Yes, of course, this can be done by closing the long, opening a short, closing the short and opening a long. But now I have paid an extra spread and opened a riskier long position.....and I don't want to do that every time I take a short-term trade.

Just one question for all the "hedgers". Why do institutional trading platforms, the ones where people trade by the million, don't support hedging? Why are all of them FIFO? I guess that institutional traders, the ones being paid juicy salaries to trade, are not as sophisticated as retail traders which "play" the market both long and short at the same time.

Nobody's saying that same-pair 'hedges' can't be profitable, just that they can always be easily replicated, pip for pip, without hedging, and with equal or lower cost (swap + spread). This topic has been done to death on several other threads (e.g. here here here here). There's a fair summary of the pros and cons here.

And I though this was going to be a boring subject...

To say right out front, my opinion, on hedgeing as it is used (definded)here. That is, haveing a position long and short in the SAME currency pair ending with a NET zero position as a TRADING strategy, is in the same boat as martingale and grid systems. they are different forms of the 'I must be right' game some people play with themselfs. They all tend to blow up the account at the end.

I have never used Same Pair hedging, BUT, It may have some uses as a TOOL under some conditions, though I have not found them to be usefull in my approch to trading. I will get to what I mean about a TOOL later in another post. When one calls somthing 'totally useless', all he is really saying is 'I have not spent the time to found any uses for it.'

I must first respond to another post first;

Keit

jctp

The no Direct hedging (hedging with like kind) rule has been a standard rule in all US markets along with; FIFO, Married Puts, and others. They were not put in place to protect the retail trader from himself but very much the operset.

Forex never was subjected to these rules because banks were in control of forex untill just recently. It is the same reason why forex had no past regulation as well, that is what was refered to as the bank amendment in the requlations. Banks donot like regulations of any kind...

If one stops to think of the goverments tax laws, one will clearly see why these rules exist in the US. I donot have knowledge of any other country's laws and I assume they are different then the US with repect to gains.

In the US we have a thing called capital gains verses ordinary gains which is determined by the holding period of your positions. the goverment has a lot to beenifit with trying to maintain your gains classified as ordinary gains as the tax rate is a lot higher that way. Let me give you an example;


you have a position with a very large open profit the dead line for classifing your gains as capital gains is approching. In one month time your large open gain will benifit from a tax break of 15% but the economy is going south and the market is starting to go against you. What do you do? hedge it with like kind (long short the same tradable) and hold it for another month to benifit from the tax breaks. during this month you make nor loss nothing but save alot of tax money from the profits.

You see why the goverment dont want hedging. its all tax laws thats it. What about hedging with options? Puts? why FIFO? all the same... all the same to stop capital gains treatment... tax laws.

But hedging stocks with options is not of like kind? If one opens an option position as a hedge and creates it were it has an DITM amount or creates it in a fashion that he has no benifit but to create a tax benifit the IRS deams that a sale of the stock and will base the taxes as such even if you at the end donot close that position, they will call it a sale and readjust your cost bases and of course restart the clock on any future gains. look up what is ment by married puts. you will be supprized to find out that a lot of these rules (tax laws) are to protect the govenments right to collect the highest possible taxes.

They say that the people in the US have a RIGHT to position themselfs in their afairs to create for them the ability to pay the least amount of taxes posible... The game is always the same while the rules can be changed.


Keit

THe only point I see to hedging is if you are in a long term position, but there is a potential retracement of 300 to 400 pips against you before trend resumes.
One might open a hedge and catch the pips in the opposite direction while protecting ones trade.

Any MM MT4 account in the US that allows hedging, has an extremely confusing method of explaining the way it changes the initial price of your trade.
Ask them you'll see.

For shorter term trades it is useless. IMO and never hedge a losing position.

One could argue the first point and say why not just close the position and co the opposite way? Well you can and have to with FIFO.

Once these new regulations pass a lot of things are going to change for retail traders. US based people may not even be able to open accounts overseas.....

jpat

I am not picking on you, although I have used two of your posts to make some points.

Here what you say is very true and is a viable trade condition that can happen, but you must explain it a little better for others to better comprehend. But first to continue my last post for a minute what you said earlier is that NFA created rules to protect the retail trader, the FIFO rule was created to stop you from doing just what your state here. If what you state here is a viable option and I agree with you it is a situation that can occure in your trading and both position could end in profits. This is not a hedge per say, even though on your trade records it may appear that way. Then ask your self why then the FIFO rule?

Now, to explain this better for others. If one has two trading strategies, one is a trend following method, and the second one is a counter trend method. And in your trading you use both systems to trade with. In most cases only one system would be active in any given time. How ever, it is quit possible that both system could trigger trades, and because they are very different in their approachs to trading it would be very posible to, to have a long and short position on the same currency pair at the same time. May it be net long, net short or evenly hedged would not make any difference here.

If both positions are let run, both can, as well end up in profits, in losses, or one win one lose. But the point here is that both positions were open with different intent for end PROFITS not as a hedge to avoid LOSSES. To state that you can make one position out of this situation is true as well, but, the night mare of position management that would result would be unbeleiveable and the costs (spreads and slipperage) would be higher in trying to maintain that one position. (may try coding it some day ).

Is hedgeing a viable option in trading? Yes, but this situation should not be considered a hedge trade, eventhough it may appear as such on your trade records.



Keit



My next post will be about some possible ways of useing the hedging option in MT as a TOOL to accheive other profitable results.

Edit[I see xTrade made a similar post]
double edit[I got two members mixed up sorry of the mistake it may cause]

Here's a question for anybody who thinks that they understand the math behind same-pair hedging.

See the image below. The red line is the price movement.
The distance between A and B is 100 pips.
The distance between B and C is 20 pips.
The distance between C and D is 100 pips.

Trader X buys 1 lot at point A, and closes this trade at D. Seeing a selling opportunity during the trade, he 'hedges' by selling 1 lot at B and closing that position at C.

Trader Y likewise buys 1 lot at A. He sees the same shorting opportunity at B, so he closes his long position. Then, after likewise seeing the market turn back upward, he buys 1 lot again at C, and closes it at D.

Questions:
1. Which trader captures more pips?
2. Which trader pays more in spread costs (assuming both use the same fixed spread br0ker)?
3. Which trader pays more in swap, if 5pm EST occurs between B and C (assuming the br0ker makes money by paying the trader less swap on carry-trade-directional trades than he charges on opposite-direction trades)?
4. How does trader X benefit, profit-wise, from his hedge?

My guess is that less than 10% of those who've posted in this thread will be able to answer all of the questions correctly, at least judging by what I've read so far.

Then post a same-pair hedge that can't be replicated, pip for pip, and no matter what the market does, by having only a single position open at all points along the way. Better yet, message it to Merlin, and win yourself $100,000.

I'm not saying that I'm right personally, just that the math speaks for itself.