GLOSSARY // Risk & Psychology
Hedging
Hedging is holding an offsetting position so that a loss in one holding is partly or fully canceled by a gain in another. Common equity hedges include buying puts against long stock, shorting a correlated name or index ETF against a long book, and collaring a position with options.
A hedge is bought insurance, and insurance has a premium: option cost, borrow fees, or the drag of a short that rallies. A fully hedged position also has no net exposure — it makes nothing. The practical question is never whether to remove risk entirely but how much downside to insure and at what running cost.
An investor holds 500 shares at $60.00 ($30,000) into an uncertain event and buys 5 put contracts, strike $55, for $1.20 each — $600, or 2% of the position. The stock drops to $45: the shares lose $7,500, the puts are worth $10.00 intrinsic ($5,000), netting $4,400 after premium. Total loss $3,100 instead of $7,500. If the stock instead rallies, the $600 premium is the full cost of the insurance.
Related terms
Educational only — not financial advice. Definitions simplified for clarity; markets are messier than definitions.