fbpx

Hedging Forex

Benzinga Money is a reader-supported publication. We may earn a commission when you click on links in this article. Learn more.

Hedging currency positions or other forms of exposure to the forex (foreign exchange) market is a skill that can take some time to learn depending on the kind  of protection you need. If you are looking to learn about hedging and the best way to mitigate forex risk, then read on before executing a currency hedge position. 

Best Brokers for Hedging Forex:

Account Minimum
100 of your selected base currency
Pairs Offered
80+
Get started securely through FOREX.com’s website
Account Minimum
100 of your selected base currency
Pairs Offered
80+
1 Minute Review

FOREX.com is a one-stop-shop for forex traders. With a massive range of tradable currencies, low account minimums and an impressive trading platform, FOREX.com is an excellent choice for brokers searching for a home base for their currency trading. New traders and seasoned veterans alike will love FOREX.com’s extensive education and research center that provides free, informative forex trading courses at multiple skill levels. While FOREX.com is impressive, remember that it isn’t a standard broker. You can’t invest in the stock or bond market through your FOREX.com and you cannot open an account with tax advantages. The confusing pricing and margin structures may also be overwhelming for new forex traders.

Best For
  • MetaTrader 4 users
  • Beginner forex traders
  • Active forex traders
Pros
  • Impressive, easy-to-navigate platform
  • Wide range of education and research tools
  • Access to over 80 currencies to buy and sell
  • Leverage available up to 50:1
Cons
  • Cannot buy and sell other securities (like stocks and bonds)
  • Confusing margin requirements that vary by currency
  • Limited customer support options
  • Cannot open an IRA or other retirement account
Commissions
$10 value per pip
Account Minimum
$0
Get started securely through IG Group’s website
Commissions
$10 value per pip
Account Minimum
$0
1 Minute Review

IG is a comprehensive forex broker that offers full access to the currency market and support for over 80 currency pairs. The broker only offers forex trading to its U.S.-based customers, the brokerage does it spectacularly well. Novice traders will love IG’s intuitive mobile and desktop platforms, while advanced traders will revel in the platform’s selection of indicators and charting tools. Though IG could work on its customer service and fees, the broker is an asset to new forex traders and those who prefer a more streamlined interface.  

Best For
  • New forex traders who are still learning the ropes
  • Traders who prefer a simple, clean interface
  • Forex traders who trade primarily on a tablet
Pros
  • Easy-to-navigate platform is easy for beginners to master
  • Mobile and tablet platforms offer full functionality of the desktop version
  • Margin rates are easy to understand and affordable
  • Access to over 80 currency pairs
Cons
  • U.S. traders can currently only trade forex
  • Customer service options are lacking
  • No 2-factor authentication on mobile
Account Minimum
$50 USD
Pairs Offered
47
Get started securely through eToro’s website
Account Minimum
$50 USD
Pairs Offered
47
1 Minute Review

Though Australian and British traders might know eToro for its easy stock and mobile trading, the broker is now expanding into the United States with cryptocurrency trading. U.S. traders can begin buying and selling both major cryptocurrencies (like Bitcoin and Ethereum) as well as smaller names (like Tron Coin and Stellar Lumens).

eToro offers traders the opportunity to invest their assets into premade portfolios or cryptocurrencies, similar to services offered by robo-advisors through traditional brokers. Though eToro isn’t a one-stop-shop for everything an investor needs, its easy-to-use platform and low spreads is a great way to enter the cryptocurrency market.

Best For
  • International Forex/CFD Traders
  • New cryptocurrency traders looking for an easy-to-use platform
  • Traders who want to buy and sell cryptocurrencies on-the-go
Pros
  • Simple platform that is easy to master
  • CopyTrader feature that allows new traders to copy the same strategies used by professionals
  • Virtual dummy account that gives you $100,000 to practice trades
Cons
  • U.S. traders currently limited to cryptocurrencies
  • Only 15 major coins available to trade
Account Minimum
$100 USD (or equivalent)
Pairs Offered
69
Get started securely through HYCM’s website
Account Minimum
$100 USD (or equivalent)
Pairs Offered
69
1 Minute Review

HYCM is 1 of the world’s leading forex brokers, offering investors access to over 69 unique currency pairs. However, forex isn’t the only thing the broker offers — HYCM also offers high rates of leverage, stock and ETF trading, commodity investing and much more. Getting started with HYCM is quick and easy, and most investors can open an account in as little as 10 minutes.

HYCM offers a varying fee structure, which allows investors to choose the spread option that’s best for them. A wide range of educational and investing tools are available, which can be equally beneficial to both experienced and novice traders. Though HYCM isn’t currently available in the United States, it can be a great choice for residents of the other 140 countries where it offers service. 

Best For
  • Investors who want a customizable fee schedule
  • Traders comfortable using the MetaTrader platform
  • Islamic traders who need swap-free accounts that don’t build interest
Pros
  • Wide range of currency pairs available
  • Excellent selection of educational tools
  • $0 deposit and withdrawal fees
Cons
  • Not currently available to traders based in the U.S.
Account Minimum
100 EURO
Pairs Offered
50+
Get started securely through AvaTrade’s website
Account Minimum
100 EURO
Pairs Offered
50+
1 Minute Review

A fully regulated broker with a presence in Europe, South Africa, the Middle East, British Virgin Islands, Australia and Japan, Avatrade deals with mainly forex and CFDs on stocks, commodities, indexes, forex, cryptocurrencies, etc. This brokerage is headquartered in Dublin, Ireland and began offering its services in 2006. It offers multiple trading platforms and earns mainly through spreads.

Best For
  • Beginners
  • Advanced traders
  • Traders looking for a well-diversified portfolio
Pros
  • Controlled by regulatory agencies of multiple countries
  • Choice offered in terms of trading platforms
  • Support available in 14 languages and trading platforms in 20 languages
  • Practice/demo account available for trying out
  • Breadth of trading assets
Cons
  • Does not accept customers from the U.S. as it isn’t regulated in the U.S.
  • Transferring funds to the account may take up to five days; withdrawals could take up to 10 days

Overview: What is Hedging in Forex?

Once you start trading forex or if you have a fundamental currency exposure that arises, you might feel the need to protect against market risk without closing out your position entirely. 

“Hedging” is protecting yourself against risk,  and the transaction that you execute to do so is a “hedge.” Hedges can fully or partially protect you against market risk by having an offsetting market exposure to your original position. 

In many cases, a partly-offsetting spot transaction is suitable to hedge a spot forex position in a currency pair during an undesirable risk period. If an undesirable forex risk is longer than the spot delivery date, then currency products like forwards, futures and options contracts can be used as effective hedges. 

Some retail forex traders use the term “hedging” specifically to refer to having an open but offsetting position in a currency pair with their online broker. This practice is not allowed in some countries, most notably the U.S., for example, where retail traders are expected to simply close out the initial position rather than hedge it by keeping two offsetting positions open in the same currency pair. 

How Does Forex Hedging Work?

Unless they focus entirely on trading, most forex trading courses, will have a section on hedging. While less common among traders who actually want to take forex risk, the idea of reducing forex risk via hedging is especially popular among businesses that view currency hedging as a prudent risk management strategy. Companies generally prefer not to take significant risks they don’t understand or have the in-house skills required to manage actively. 

Hedging a Spot or Forward Position

Consider the gains and losses associated with a hedged position in which a trader is long 1 million euros for value spot and has hedged that position with a short 1 million euro transaction also for value spot so that their net exposure is 0.  A forward contract could be used instead of a spot contract when hedging a known exposure for a value date beyond spot. 

If the EUR/USD exchange rate moves from 1.2500 to 1.3000, then their +$50,000 in profits on the initial long euro position are completely offset by their -$50,000 in losses on the short euro hedge position. 

Hedging a Contingent Exposure Using an Option

Hedging an exposure using a long option contract gets a bit more complicated and is typically most appropriate for hedging contingent exposures that may occur. This uncertainty is typically because the exposure depends upon something happening, like a business possibly getting a contract in a bidding contest. 

In this example, consider the situation if the contingent exposure is for the need to buy 1 million euros at 1.2500 and will persist over 1 month of bidding. This gives the company a possible short exposure to the EUR/USD exchange rate at the contractual rate, and it can then purchase a 1month euro call/U.S. dollar put option with a strike price of 1.2500 to hedge their risk in case they win the contract. 

If the market ultimately ends up above the 1.2500 strike price at expiration, then the option will be exercised or sold back, but it will be abandoned as worthless if the market ends up below that rate.  Like an insurance policy, that option purchase will cost the business a premium. The premium’s value will depend on the prevailing spot rate and the 1- month forward rate and implied volatility for EUR/USD, among other factors.  

The EUR/USD put option has a breakeven rate of 1.2500 plus the option premium that was paid converted into the same terms as the exchange rate. So if a premium of $30,000 was paid, that conversion is 0.0300 based on the following calculation:

$30,000 premium/1 million euros notional amount =  0.0300 U.S. dollars per euro

Adding that 0.0300 to the option’s contractual exchange rate or strike price of 1.2500 yields a breakeven rate of 1.2800. 

Using their option, the company can buy 1 million euros at 1.2500 if the market rises and the exposure materializes, but if the exposure does not materialize because the bid is lost, then the option can be sold back for whatever it is worth once that situation becomes clear.

Risks Associated with Hedging Forex 

The risks associated with hedging a forex position are generally lower than those you would take if you remain unhedged. However, if you do not hedge fully, or if an expected exposure fails to materialize, then you can be exposed to risk from a hedge just like you would if you had taken that net position as a speculative trade. 

Another risk associated with hedging is that the underlying position might have turned out to be profitable, but using a hedge fully or partially eliminated that profit. This results in a disappointing missed opportunity, a worse competitive position when bidding, or even criticism from management about how the forex risk was handled. 

When a Forex Hedge Works

Since hedging is generally aimed at reducing risk, risks with forex hedging are generally lower than those you would take if you allowed the initial position to remain unhedged. Hedging therefore usually works well if the initial position or underlying exposure would have lost money because the hedge compensates you for that loss. 

When a Forex Hedge Doesn’t Work

Using a hedge is often more controversial when your underlying position or exposure ultimately turns out to benefit from the exchange rate movement seen afterward. This opportunity loss r could reduce competitiveness for a business due to the loss you’ll need to take on a hedge. 

The Best Brokers to Hedge Forex With

If you are a retail online trader, then selecting the best forex broker to hedge a currency position may depend on where you live. While traders living outside the U.S. can generally hedge while trading, U.S.-based traders typically are not allowed to run offsetting positions with an online broker regulated by the National Futures Association (NFA). 

An NFA rule known as the first-in first-out (FIFO) rule  — formally known as NFA Compliance Rule 2-43b — prohibits this hedging. The NFA’s FIFO policy means that retail forex traders need to close their earliest transactions out first when their active trades involve the same forex pairs in the same position size. It also bans price adjustments to executed customer orders, except to resolve a complaint. Note that this rule does not apply to outright currency positions hedged with option contracts. 

We recommend you check out the following brokers: 

Broker 1: FOREX.com

FOREX.com is a top U.S.-based forex broker, but since it is regulated by the NFA, you cannot use this broker to take on hedging positions in the same trading account if you are based in the U.S.l.

Account Minimum
100 of your selected base currency
Pairs Offered
80+
Minimum Trade Size
$1,000
Spread
0.2 pips – 1.0 pips
Commisions
$0 – Variable starting at $60 per million traded depending on account
Best For
  • MetaTrader 4 users
  • Beginner forex traders
  • Active forex traders

You can, however, open 2 different accounts, with a trade in one account and e an offsetting hedge transaction in another. This does require extra cash management to make sure both accounts have sufficient margin. 

FOREX.com offers forex trading in over 80 currency pairs and has a direct market access (DMA) option for well-funded traders. The broker allows trading via the popular MetaTrader 4 and 5 platforms that each have mobile and Web-based versions, and it also supports market access via NinjaTrader and its own ForexTrader Pro platform. 

Read Benzinga’s full FOREX.com Review

Commissions
$10 value per pip
Account Minimum
$0
Best For
  • New forex traders who are still learning the ropes
  • Traders who prefer a simple, clean interface
  • Forex traders who trade primarily on a tablet

Broker 2: IG

IG is an award-winning broker with a global presence that generally allows forex hedging transactions executed by clients not based in the U.S..

You can trade currency pairs via this broker either using contracts for differences (CFDs) or its DMA service. IG.com offers 24-hour customer service with experts. 

The U.K.’s Number 1 forex broker also offers a trading service in stocks, exchange traded funds (ETFs), indexes, cryptocurrencies and commodities. IG supports MetaTrader 4 and has a mobile app for both Android and iOS devices.

It also has various research options that include trade strategies, reports, news and educational material. 

Account Minimum
100 EURO
Pairs Offered
50+
Minimum Trade Size
0.01
Spread
as little as 0.6 pips
Commisions
$0
Best For
  • Beginners
  • Advanced traders
  • Traders looking for a well-diversified portfolio

Broker 3: AvaTrade

Ireland-based AvaTrade is another reputable online broker that also allows forex trading clients to use hedging transactions. AvaTrade is also regulated within the EU and conforms to the Markets in Financial Instruments Directive (MiFID) and the revised MiFIR. 

In addition to currency pairs, this global broker provides access to more than 250 tradable instruments including CFDs, indexes, bonds, ETFs and cryptocurrencies.

Traders can use the popular, free MetaTrader 4 platform, as well as the broker’s own proprietary platforms, for desktop, Web and mobile trading. The broker also provides educational materials, including video tutorials. 

Read Benzinga’s full AvaTrade Review

Should You Hedge Forex Risk?

If you are a retail trader then you may want to hedge forex risk if you think the market will significantly go against you and may not recover within your position time frame. You can also elect to entirely close the position out, which would be mandatory for U.S.-based retail forex traders due to the NFA’s FIFO rule 

Hedging often seems most prudent for traders during times of notable volatility, such as during news announcements, elections or major economic data releases.

On the other hand, if you manage forex risks for a business, then hedging exposures often makes sense so that your business can instead focus on its core products and services rather than on fluctuating foreign exchange rates. 

Benzinga's #1 Breakout Stock Every Month

Looking for stocks that are about to breakout for gains of 10%, 15%, even 20% potentially or more? The only problem is finding these stocks takes hours per day. Fortunately, Benzinga's Breakout Opportunity Newsletter that could potentially break out each and every month. You can today with this special offer:

Click here to get our #1 breakout stock every month.

Hire a Pro: Compare Financial Advisors In Your Area