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Hedging is taking a futures position to protect the value of an asset. If you have an investment portfolio of UK shares and you believe that the market is due for a correction (a fall), you could sell the FTSE100 futures market. This would mean that if the market fell, although your portfolio would drop in value, your futures position would profit and offset your portfolio's loss. Arbitrage is when an opposing position is taken simultaneously in two markets with a view to making a profit from the change in the difference in prices. For example, if you felt that the price of the FTSE100 futures was trading at too great a premium to the underlying cash market, you 13 could sell the futures and simultaneously buy the cash market. If you were correct the markets would converge creating a profit. Speculation is trading for profit by anticipating the movement in the market. If you felt that the market was about to rise you could buy the FTSE100 futures, taking a long position; or if you felt it was about to drop you could sell the FTSE100 futures, a short position. Futures Prices, Fair Value & Convergence to Cash Price |
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