Two common reasons that you would normally hear with trading and investing are: Speculation and Hedging. Often used to convey the same thing; financial trading strategies. In reality, both speculation and hedging are in reality quite different in terms of their purpose and objectives.
| Speculation | Hedging | |
|---|---|---|
| Objective | To make money (profit) from the rise and fall of the currency prices. | To offset or minimize (protect) any risk derived from the volatility of the price of an asset. |
Speculation in Forex Trading
Speculation is conducting a trade or market transaction that has both the potential for a substantial profit and the possibility of a severe loss. In a speculative trade like this the trader believes that the potential for gain is more than enough to offset the risk of loss.
Day-traders or sometimes referred as retail traders practice speculation in the forex market. Their primary objective is to earn a profit from the market.
Hedging in Forex Trading
Hedging is a strategy to minimize price and protect themselves risk in case of adverse movement. Or, we can say that it helps investors to reduce or even eliminate the chances of loss because of a significant movement in the underlying asset’s price. A trader needs to take opposite positions in two separate markets to execute hedging. In this way, a loss in one market could be offset by the gain in the other market.
Multinational companies practice hedging to reduce the risk of fluctuations in currency values when they buy or sell goods and services outside of their domestic market.
Speculation vs Hedging
In simple terms, speculation means to profit and hedging is to protect., Both look to achieve different objectives while participating in the forex market. It is important to note that while trading, one is not exclusive of the other. You can practice a combination of both speculation and hedging in your trading endeavor.
