Forex Hedging

Forex hedging is not often thought of when new investors first come into the world of forex and currency changing but in reality forex hedging is talked about quite frequently within the currency trading world and it is something that many forex traders use to reduce their risk while trading in currency. This all changed when the CFTC approved a new NFA compliance rule in regard to forex hedging that prevents retail forex customers to take “long and short positions in the same currency in the same account”. This new regulation has just been recently handed down and it has drastically affected the way forex traders used to hedge their investments so that they would take on less risk.

Forex hedging is not dissimilar from your conventional investment hedging in that it is a strategy used by many investors in order to offset some of their risk while making trades. The classic case of hedging is when a trader has equally offsetting positions that can counteract profits and losses in either direction. Hedging is often used in forex when traders hedge varying currencies against each other that may or may not have certain correlations. This can play into their entire trading strategy and can ultimately prevent the trader from taking on the risk before the trades may have been implemented.

In reality forex hedging is not nearly as prevalent as an overall strategy as it is within the conventional investing world and many have said that hedging does not even play a significant role on the foreign exchange markets. So what about this new regulation that the CFTC so readily approved that is supposed to change how currency traders implement their hedging strategies from now on?

The new regulation is a classic case of throwing the baby out with the bathwater and due to a few careless traders the NFA banned the practice outright, which is really pretty silly in the end. The number of forex traders and brokerages that utilized hedging on an effective basis is in the minority and while hedging is a risky practice when not done properly it has not become a real problem within the industry and can still be helpful for investors who know how to use the technique appropriately. It is almost like the NFA got bored and heard something bad about hedging and decided to take action without really understanding the situation in full. I hope that the NFA reconsider this new rule as it does affect the small portion of us that can use hedging to appropriate risk the right way and overall I think it discourages healthy trading in the long run.

It is not the end of the world even if this rule has the kind of effect its originators wanted it to. What I know some traders are going to do if they still want to maintain a forex hedge is to open an account at a different FCM or even at an FCM that might not be located with the U.S. The bottom line is that if hedging is working for you then you are going to still be able to hedge if you really want to, it is just going to take a little more creative thinking and effort. If this trend continues of outlawing creative trading methods within the currency trading world then I think some traders will simply move their business overseas. The risks that the NFA and CFTC so want to control will then be outside of their jurisdiction and in the end they will only be making things more difficult for everybody.