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When firms use financial instruments to hedge their position, such as options, futures and swaps. What...

When firms use financial instruments to hedge their position, such as options, futures and swaps. What are 5 ways which hedging can cause losses to the firm?

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Answer #1

Hedging can cause losses to the company in these ways-

A. when there will be a lack of fluctuations in the foreign exchange market and cost of hedging will be the direct loss

B. When there will be inappropriate heading which has been done by the company and its exposure are not fully hedged, it will be leading to losses when there will be unfavourable movement of currency

C. when the overall cost of hedging is higher than the overall benefits which is provided by loss reduction due to hedging

D. When hedging would be resulting into loss of a very high degree of opportunity gains because there would have been a very favourable moment if the hedging would not have been done, so it would be leading to loss of profits.

E. When there are a very high degree of economic exposure then heading would not be appropriate and it would be leading to losses

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