Cross Hedge (Investments) - Explained
What is a Cross Hedge?
Written by Jason Gordon
Updated at April 17th, 2022
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Table of Contents
What is a Cross Hedge?How Does Cross Hedging Work?Academic Research for Currency Cross HedgeWhat is a Cross Hedge?
Cross-hedging is a strategy often used by investors to manage the risk of investments. Cross involves the purchase of two similar investment instruments with similar price movements in such a way that the financial risk of one of the instruments is offset by the financial gain of the other instruments. Investors who use the cross-hedging strategy purchase two financial instruments with similar price action so that the financial risks of the former instrument can be counterbalanced by the financial returns of the latter. Investors who use this strategy purchase similar future contracts with similar price trends.
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How Does Cross Hedging Work?
The rationale behind a cross hedge is that it allows an investor to occupy similar positions in two different markets. This is a unique strategy that helps investors hedge market volatility. Through cross hedging, an investor purchases two correlated financial instruments in which the overall risk or loss of one is offset by the profit earned on the other. Cross over coverage is similar to a cross hedge, it entails ensuring that two investments have a level of similarity despite that they are from two distinct markets with varying conditions. Crossover or cross hedging can also occur in businesses, this entails a business having two correlated investments that are both sensitive to market volatility in such a way that one investment gives protection to the other.