How hedging works
A hedge pairs a position with another that moves the opposite way:
| Main position | Hedge | What the hedge does |
|---|---|---|
| Long Nifty futures | Buy a Nifty put | Limits the loss if Nifty falls |
| Short straddle | Buy an out-of-the-money call and put | Turns unlimited risk into a defined maximum loss: an iron fly |
| Short call | Buy a higher-strike call | Caps the loss: a bear call spread |
| Stock portfolio | Sell Nifty futures | Offsets a market-wide fall |
An example
Example
You buy one lot of Nifty futures at 25,000 and buy the 24,700 put for ₹113.40, with 12 days to expiry. The put costs 65 × 113.40 = ₹7,371. If Nifty falls to 24,000 at expiry, the futures lose 65 × 1,000 = ₹65,000, but the put pays 65 × 700 = ₹45,500. Including its cost, the hedged loss is ₹26,871 instead of ₹65,000. Below 24,700 the loss cannot grow further.Formula
Maximum loss of futures with a protective put = (futures price − put strike + put premium) × lot size.
The cost of hedging
- Premium paid: the put in the example costs ₹7,371, which is lost if Nifty rises.
- Lower profit: in a spread, the hedge caps the gain as well as the loss.
- Less margin: hedged positions usually need much less margin, which can offset part of the cost.
Hedging and margin
Exchanges recognise hedges in their margin calculations. An iron fly or an iron condor needs far less margin than a naked straddle or strangle, because its maximum loss is known. When entering a hedged position, buy the hedge legs first, so the short legs get the lower margin.
Related terms
Learn more
Frequently asked questions
Does hedging remove all risk?
No. It limits the loss in the scenarios it covers, at a cost. Some risk always remains.
Is a stop loss a hedge?
Not exactly. A stop loss exits a position at a set price, if it can be filled. A hedge holds an offsetting position, so it works even when prices jump past a stop.
Why do hedged positions need less margin?
Their maximum loss is limited, so the exchange's risk system blocks less money.
Trading involves substantial risk. Model prices on this page are examples, not quotes, and are not investment advice.