Purpose of Hedging
Managing Financial Risk
Companies use derivatives primarily to reduce exposure to risks such as interest rate changes, foreign currency fluctuations, commodity price movements, and market volatility. Hedging helps stabilize cash flows and earnings.
- Interest rate risk.
- Foreign currency risk.
- Commodity price risk.
- Market price risk.
- Cash flow uncertainty.
Tip
A hedge is designed to offset the risk of another asset, liability, forecasted transaction, or firm commitment.
Summary
Hedging reduces financial risk by offsetting changes in the value or cash flows of exposed items.