Categories of Hedgeable Risk
There are varying types of risk that can be protected against with a hedge. Those types of risks include:
- Commodity risk: the risk that arises from potential movements in the value of commodity contracts, which include agricultural products, metals, and energy products.
- Credit risk: the risk that money owing will not be paid by an obligor. Since credit risk is the natural business of banks, but an unwanted risk for commercial traders, an early market developed between banks and traders that involved selling obligations at a discounted rate.
- Currency risk (also known as Foreign Exchange Risk hedging) is used both by financial investors to deflect the risks they encounter when investing abroad and by non-financial actors in the global economy for whom multi-currency activities are a necessary evil rather than a desired state of exposure.
- Interest rate risk: the risk that the relative value of an interest-bearing liability, such as a loan or a bond, will worsen due to an interest rate increase. Interest rate risks can be hedged using fixed-income instruments or interest rate swaps.
- Equity risk: the risk that one's investments will depreciate because of stock market dynamics causing one to lose money.
- Volatility risk: is the threat that an exchange rate movement poses to an investor's portfolio in a foreign currency.
- Volumetric risk: the risk that a customer demands more or less of a product than expected.
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