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Key Financial Market Concepts, 2nd Edition by Bob Steiner

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Hedge ratio

Definition

A hedge ratio is the face value of one instrument which must be used to hedge another instrument or a portfolio, as a proportion of the face value of the latter.

How is it used?

A dealer or fund manager with a position in a bond or a portfolio of bonds may wish to protect against the risk of falling prices. It may not be practical or price-efficient to sell the existing bond or portfolio. For example, if the portfolio contains many bonds, it could take a long time to sell all the portfolio. Also, the dealer might need the protection for only a short time: he might be satisfied in principle with his portfolio but need protection during the announcement of some economic data, or while he is out of the office. He would not ...

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