V.1:6 (134-135): Modern Hedging For Everyone by DR. BASIL VENITIS

V.1:6 (134-135): Modern Hedging For Everyone by DR. BASIL VENITIS
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Modern Hedging For Everyone. by DR. BASIL VENITIS

The business world is entering a new period full of excitement, which one day might well be called the Era of Hedging. When this period matures, everyone in the free enterprise system will probably be directly or indirectly involved in hedging!

What is hedging? It is the arbitrage* between futures and their corresponding spot commodities financial instruments, or services. The classical hedger assumes a futures position exactly opposite to his spot position. For him, hedging is a sort of insurance against severe price fluctuations. On the other hand, the modern hedger not only seeks protection from price fluctuations, but he also tries to profit from the variations of basis, which is the difference between futures and spot prices. The modern hedger speculates on the basis variation by placing and lifting the hedge several times on part of his inventory.

Under normal circumstances, the futures prices are higher than the spot prices due to carrying cost. This market is called a normal market or a carrying charge market or contango. However, when traders are worried about possible shortages, then the futures are discounted to spots, and this is called an inverted market. Of course, when the futures contract matures, the spot price is almost equal to the futures price.

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