Positive Hedging - a Medicine From Fear

Welcome, ladies and gentlemen, forex traders!

We all know that there is no trend without corrections. And it’s also not known when the trend ends. And, if we have a position in profit, it is always tempting to close it. Fear of losing earnings emerges. But what if there is an opportunity to “buy insurance” from reducing profits and at the same time earn on corrections? Such a medicine from fear exists and it’s called Positive Hedging.

Today we will talk about the positive hedging - what is it, what is useful in this approach, and how this technique is applied in practice.

What is Hedging?

Hedged orders are orders of the same value opened on the same currency pair and the same trading account. Hedging can be negative or positive. To begin, let’s consider the example of the negative hedging.

Negative Hedging

Suppose we made Buy trade with 0.1 lot, but the price has gone in the opposite direction. If in this place we open a Sell order with 0.1 lot, we hedge the loss of 20 points. Thus, we create a hedge.

Thus, wherever the price goes, the amount of loss will remain the same. If the price goes up, the loss on Sell increases and, at the same time, profit on Buy order increases. If the price goes down, the loss on the Buy overlaps by the profit from Sell. That is, hedging can be used as an alternative to stop-loss. It gives you an advantage because without closing existing positions you have the time to calculate reversal points, to open new orders or make the old ones profitable. This is the so-called negative hedge.

Positive Hedging

Another type of hedging is positive hedging. For example, we opened a Buy order and the price immediately turned to our side. Later, a dilemma emerges. On one hand, we can take the existing profit and leave. On the other hand, you can wait to hope that the trend will continue. At this point, the feeling of fear and a sense of greed start to struggle - the fear of losing money and the desire to earn more.

Alternatively, if you think that there will be a correction, you can open an additional Sell order. As a result, we get a positive hedge. This type of hedging is used if you trade on long term or just looking for a good alternative to stop-loss. Let’s suppose that after that a correction began, the price has gone down and we have a signal to open a Buy order. Then we close a Sell trade and get profit equal to the size of the correction. If the Buy signal appears, we open a Buy trade and, if the price goes in the right direction, we will gain on both orders.

What will happen if the trend changes and the price go down? For example, we have +60 points on Sell and -10 on Buy. In this case, since the trend has changed, we can close the Buy order, thereby making a small loss, and leave the position for Sell. You can also open an additional order if there are any strong signals to the Sell side.

If the important news has been released, a strong turbulence occurs in the market. If we had opened the order in an old way, our position would already be closed by stop-losses and, maybe, more than once. The presence of hedge lets you wait out this period, and when the future direction of the movement is clear (the channel breakdown, for example), you can make a decision. For example, the upper limit of the channel was crossed, then we close the Sell order and leave the Buy one.

Yet, the most important, in my opinion, hedging advantage is the psychological factor. Hedge lets you take enough time to think because we know that no price fluctuations will affect our profits. Stay calm, breath and in a calm atmosphere you can soberly assess the situation and take the necessary decisions.

Another obvious advantage of hedging is an opportunity to use more movements and, accordingly, take more profit. As you know, there are traders who close their positions in parts. Let’s say you want to close one of the positions. In order not to miss out the potential profit, you calculate the level where you think the correction will start. Alternatively, at this level, you can set a pending Sell Stop order of the same volume. Thus, if the correction starts, then the pending order will be triggered and a positive hedge will be created. If the price continues to move in the same direction, the order will not be activated.

To automate working process when working with hedging, there exist many support advisors. You can use the ArgoAverager advisor, by downloading it from our website.

Examples in practice

Here are some examples of positive hedging on the chart GBPUSD H1. At some point after the downtrend price draws a Pin-bar on the chart, and we decide to open a sell order.

It is not worth creating a hedge having a small profit on the position. Still, it is a long-term tool. Think about creating a hedge when, for example, you would like to close a part oft he position. Next, we have a candle with a long tail that can mean the end of the trend, which, in its turn, indicates the presence of two options: we either close the position or open a buy to create a positive hedge.

Then we see how the price breaks the level that most likely means the end of correction. In this case, the buy position can be closed, even if it has a loss. The positive hedge gave the opportunity to secure the position, quietly wait out this period and not to succumb to temptation.

A little later there is a new candlestick pattern, which looks like a reverse. In order not to succumb to fear, we open a new hedge order for a rise.

Since we formed a setup for Sell - Pin bar around the key level, hedging order can be closed. Thus, with the help of hedging orders, we can earn on corrections, while the main position continues to follow the main trend.

Conclusion

As you know, the more often you make measurements of the coastline, the longer it will appear to be. Similarly, using hedging orders, you can catch literally every movement of the instrument. It is, in fact, a multifunctional tool that can help you to get rid of greed and at the right time will give more time for thinking, not to lose money because of some stupid mistake.

That is, positive hedging allows mentally come through corrections and, time to time, to earn on them. Hedging order should be opened when you are full of the fear of profits loss, or have a great desire to close a profitable order. Instead, you open hedging order and wait for the end of correction. If the price reverses after the correction in the direction of the major trend, you close hedging order and leave the main position. If the correction appears to be a reversal of the trend, close the first order, and leave the hedging one in the direction of the new trend. Also, do not forget about the possibility of setting a deferred hedging order on some important levels not to miss a moment of correction.

The disadvantage of hedging is the necessity of double spread payment, as we have two positions.

Take care, Michael

ForexTraderPortal.com