Hedge

A hedge is a position you take specifically to reduce the damage if another position you hold moves against you. It's less about making money and more about limiting how much you can lose, sort of like buying insurance on a trade you already have on.

In practice, hedging usually means taking an offsetting position in a related instrument. If you own 100 shares of a stock and you're worried about a short-term drop, you might buy a put option on that stock, which gains value as the stock falls, cushioning your loss. Or if you're long one stock in a sector, you might short a competitor or an ETF tracking that sector, so a sector-wide move affects both positions in opposite directions and partially cancels out.

The nuance that trips people up is that a hedge is not free and not perfect. Buying options costs a premium, and shorting a related instrument ties up margin and can itself lose money if your original position moves the way you wanted. A hedge also rarely offsets risk 100%, because the two instruments don't move in perfect lockstep. So a hedge trades away some potential profit (or costs money outright) in exchange for capping potential loss — it's a deliberate reduction of both upside and downside, not a way to keep all the upside while removing the downside.

People also confuse hedging with diversification. Diversification spreads risk across many unrelated positions over time; hedging is a targeted, often temporary offset against a specific, identified risk in a specific position.