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Posted on 30 November 2011.
The term hedge, as it applies to finance, came into play sometime around 1670, and since that time traders have been searching for a simple Forex hedging strategy they can use to extend profitable trades, while providing protection against a catastrophic loss should a market turn sour suddenly. Ideally, this strategy should provide for automatic controls that require no emotional components that many traders experience. However, playing a contrarian position at the same time as holding a trade that is trending usually means profit in one hand and a loss in the other. While not perfect, the strategy outlined below has proven helpful to many traders in volatile daily markets that are still trending in a particular direction.
This simple Forex hedging strategy should only be used by traders that understand trailing stop/loss and have them available within their trading platform. This strategy will not work in a flat market, it requires a definite trend in the time frame in which you trade. Trade Setup:
You have identified a trend on the time frame of your choice that you believe will continue. However, a shorter time frame remains volatile. You want to take advantage of getting in the market based on your favorite technical signal but are wary of the volatility of your position and do not have a risk tolerance for loss.
A single lot is purchased in the direction of the trend. A stop/loss is placed at your risk level. One pip below that stop/loss, a sell order is placed for two lots with a stop/loss placed at one-half your risk level.
Results of the trade: Should your trade move in your direction, trail your stop/loss up to protect profits. If the trade moves against you, the original trade will be stopped at your risk level and the new trade activated. Since two lots were purchased you need only a small move to recoup your loss. This requires watching the short term moves very closely and this strategy is best completed while you are actively trading.
A Forex hedging strategy is a bet and you are betting against yourself in the hopes of mitigating potential losses. Simple strategies like this one can be effective but only when used in markets with a definite trend. Hedge your trades and you may find hidden profits where before you had only losses to show.
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