Define “Hedging” and How Derivatives Are Used for This Purpose

Hedging is a risk management strategy used to offset potential losses in one investment by taking an opposite position in a related security. Derivatives are ideal for hedging because they allow an investor to take a position on an asset's price movement without buying or selling the asset itself.

For example, an investor holding a stock can buy a Put Option to protect against a price decline, limiting their downside risk.