Short definition: A hedge is an investment or strategy designed to reduce the risk of adverse price movements in an asset.
Explanation: It involves taking an offsetting position in a related security or derivative to protect against potential losses in the original investment. Hedges can be used to manage various types of risk, including market risk, currency risk, and interest rate risk.
Example: An investor holding a large position in a particular stock might buy put options on the stock to hedge against a potential decline in its price. If the stock price falls, the put options will increase in value, offsetting some or all of the losses on the stock.
Additional information (optional): Hedging is a common practice in finance and investing, particularly for institutional investors and large corporations. While hedging can reduce risk, it can also limit potential gains.