Difference between hedging and speculation

Gold prices are on a record-breaking journey, crossing ₹1.22 lakh per 10 grams in October 2025, and are anticipated to rise up to ₹2 lakh per 10 gram in the next 5 years. This situation is making investors wonder whether to buy more gold stocks or lock-in profits. Whether to protect the portfolios through hedging or leverage this opportunity through speculation, is a matter of question.

While hedging focuses on risk management against price fluctuations, speculation aims to profit from it. So, having a clear understanding of the difference between hedging and speculation helps investors decide whether their strategy is for risk management or profit generation.

Read this blog to understand the difference between hedging and speculation. Learn about the instruments used in these strategies and see real-world scenarios where hedging and speculation take place. 

What is hedging in trading?

Hedging is a risk management strategy used in trading and investing. It is a process of purchasing an asset, similar to another asset which is already in possession, to minimise or offset any loss arising from it due to price movement. The profits from the hedge offset the losses from the primary asset.

Taking a classic example of a farmer who expects to harvest and sell 1000 tons of wheat in December 2025 at the current spot price of ₹2,450 per quintal. But he’s cautious that wheat prices might fall by the time he harvests his production. So to hedge it, he entered into 20 NCDEX Wheat Futures contracts to sell at ₹2,460 per quintal.

By December, if the spot price falls to ₹2300, he loses ₹150 per quintal on his physical wheat. However, he gains ₹160 per quintal from the wheat futures contract. This offsets the complete loss.

What is speculation in trading? 

Speculation is when a trader purchases a commodity or say a stock, expecting that its price will increase in the future, and sells it when the price actually increases. Speculation is based purely on expectation, taking on risk and making profits from market price movements.

Let’s understand with an example of a trader who believes that crude oil prices will go up, which is currently priced at $80 per barrel, due to expected production cuts by OPEC. To leverage this opportunity, she purchases 10 Brent Crude Oil Futures contracts on MCX at $80 per barrel.

Within the next few days, the spot price went up to $88 per barrel, and she closed her position by earning $8 per barrel. This reflects how speculation actually works. She wasn’t trying to protect herself, but she undertook risks to make a profit. If the prices had fallen instead, she would have incurred a loss. Unlike hedging, speculation only focuses on profit and not protection.

Difference between hedging and speculation

Here’s a clearer differentiation between hedging and speculation:

Basis	Hedging	Speculation
Purpose	Hedging helps to minimise or offset risk associated with price movement of assets already in possession.	Speculation is earning profits by forecasting price movements.
Approach	It is a defensive approach used to protect portfolios against market price fluctuation.	It is an aggressive approach used to earn and maximise profit.
Level of Risk	It might involve a lower level of risk.	It is indulging in high risk, to earn profit.
Market Position	It is based on underlying or existing assets.	There is no underlying asset, it is based purely on expectation that prices will increase for certain commodities or stocks.
Goal	Its main goal is to protect the existing asset’s value against potential market price fluctuations.	Its goal is to earn capital gains from market price fluctuation.

Instruments used (Derivatives: Futures, Options, and Swaps)

Financial derivatives such as futures, options, and swaps can be used by both hedgers and speculative traders. The key difference is that hedgers use them to reduce potential risks, whereas speculators use them to earn profits. 

Derivatives	Hedging	Speculation
Futures Contracts	It is used to lock in prices of commodities, currencies or indices as a protection against future price movements.	Speculative traders take positions to earn capital gains without having any existing asset.
Call Options	It provides the right, but not obligation, to buy an asset at a predetermined price. It is used to hedge against rising prices of underlying assets.	Speculators might purchase call options to gain from expected price increase.
Put Options	It provides the right to sell an asset at predetermined price, which is used to hedge against fall in price of underlying assets.	Speculators might purchase put options to gain from the downside movements.
Swaps (Interest rate, currency and commodity)	It used to manage long-term financial risks, often used by companies or institutions.	Speculators might use swaps to earn profits from changes in interest rates, currency rates or price difference between different markets.

Risk profiles: conservative vs aggressive

Aspect	Conservative Risk Profile (Hedging)	Aggressive Risk Profile (Speculation)
Primary Goal	It is for reducing risk that could arise from price fluctuations and protect the value of an asset rather than profit maximisation.	It is for generating profits based on expectation of short term price fluctuation. Here, the goal is to make gains and not manage risk.
Risk Appetite	Risk appetite in conservative traders or hedgers are generally low, as they focus on protecting their assets value.	Aggressive or speculative traders have a high risk appetite, as they enjoy price movements, which is a source of income for them.
Time Horizon	In hedging, the time horizon is relatively long-term as it involves locking in price for an extended period.	In case of speculation the time horizon is short-term, as the speculators take immediate action to enter or exit.
Market Approach	Hedgers follow a conservative approach and take a position in a highly related or same stock or commodity to completely offset risks.	Speculators follow an aggressive approach and take a position to leverage the expectation of price movements.
Result	It fully offset risk in case the price of the asset they are holding falls.	It can provide significant gains but may also cause losses.

Real-world role: Businesses vs Traders/Speculators

Real-world role: Businesses 

Businesses often use hedging as a form of insurance to manage financial risks and maintain profit margins against market price fluctuation.

Let’s understand this with a few scenarios where hedging could be applied by businesses:

Airlines: Airline companies, like Air India and American Airlines, hedge against the risk of rising jet fuel prices. They enter into jet fuel oil futures contracts, on ICE or NYMEX, to lock in a price to purchase jet oil in the future. This enables them to protect themselves from price fluctuations and maintain their cost structure.

Commodity Producers: Say a farmer, who produces barley, enters into a Barley futures contract or puts options on NCDEX, to set a price before harvesting. In that way, he can protect the value of his produce if the price falls after harvesting or before selling.

Banks: Financial institutions like HDFC Bank or ICICI Bank use interest rate swaps or currency forwards to hedge against benchmark fluctuations like MIBOR or exchange rate fluctuation. In this way, they can maintain cost structure and cash flow.

Real-world role: Traders/Speculators

Speculative traders or speculators intentionally indulge themselves in taking risks to leverage market price fluctuations. Ironically, hedgers actually transfer their risks to the speculators who are willing to take on risk to earn profit from it.

Let’s discuss some examples to see how speculation actually works in the real world:

Commodity Traders: Say there’s a trader who anticipates the price for crude oil will increase due to ongoing geopolitical strains. So, he purchases Brent crude oil futures contracts on Intercontinental Exchange (ICE) to leverage this anticipation. When the price actually increases, he immediately sells the contract before delivery, and this way, he earns a profit without having to hold an asset.

Equity Traders: An intraday trader bought call options on Apple Inc., anticipating that the launch of the new iPhone 17 will lead to an increase in the share price of the company. In this case, if the share price increases, he makes a profit, but if the price declines, he incurs a loss.

Retail Investors: Right, even a retail investor could act as a speculator, by purchasing shares based on short-term market movements or sentiments. For example, during the 2021 GameStop (GME), retail investors accumulated, to drive the price trend upwards, on platforms like r/WallStreetBets.

Advantages & disadvantages table (quick comparison)

Let’s quickly compare the advantages and disadvantages of hedging and speculating: 

Hedging:

Aspect	Advantages	Disadvantages
Risk Management	Protects assets’ value from price fluctuation	Might limit gains
Stability	Better financial planning and risk control	Reduce flexibility, when market conditions turn unfavourable
Protection	Lock-in profit by purchasing contracts at predetermined rates	May prevent further upside participation
Confidence	Supports long-term investing	Requires consistent monitoring to make effective decisions

Speculating:

Aspect	Advantages	Disadvantages
Return Potential	If the anticipation goes right, it offers significant capital gains	If the anticipation goes wrong, it results in significant losses
Liquidity	It increases trading activity in the market, and make buying and selling easier	Over-speculation makes the market highly volatile
Price Discovery	It reveals true value of an asset based on buying and selling behaviour of traders	It can contribute to over hyped stock prices, instead of revealing true value
Risk Absorption	Absorbs the risks, which the hedgers are trying to avoid, supporting market functionality	It may divert a stock from long-term investments gains

Conclusion

Hedging and speculation represent the two sides of a financial strategy. Hedging focuses on risk management, while speculation focuses on earning profits through the anticipation of market price movement.

Both strategies carry their own constraints. A professional investor might combine both by applying hedging for protection and speculation for identifying opportunities. This balances conservative and aggressive attitudes depending on goals, investment horizon, and risk appetite.

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