Difference Between Hedgers and Speculators

Hedgers vs Speculators

A jeweler needs certain amount of gold for sale of ornaments in the coming festive season. He has even advertised the latest designs of earrings, bracelets, and pendants through catalogs and has already secured orders from customers. But what if the prices of gold go up drastically after a few months? He has already set the prices of different items in his catalog, and unless he does something to stop prices of gold from going up, he will have to bear the burden of risen prices of gold. However, there is a method called hedging that will allow the jeweler buy gold after a few months at current prices. This he can do by entering futures market and purchasing a gold contract for settlement in 3 months time. If he promises to buy at current prices after three months and the prices have risen drastically, he stands to benefit as he has minimized his risk and escapes from having to buy at higher prices. Thus he is said to be a hedger, a player in futures market who minimizes his risk. On the other end of the spectrum are speculators, players who maximize their risk in anticipation of greater profits. These are called speculators. It is the presence of both hedgers and speculators that helps in stabilizing the prices in futures market.

Hedgers are mostly producers of commodity. They hedge to minimize their risk at the time of harvest as they fear they would lose out on their profit if the prices of the commodity go down. For example a corn farmer may sell corn futures prior to harvest as a hedge against drop in corn prices. It is hedgers who are principally responsible for setting up of futures market. Speculators are players who anticipate profits by rising prices and buy futures contract of producers. They do it thinking they are buying low and will sell when it is high later. Speculators are not producers and are traders who add liquidity in the market by putting in money in the market. It is clear that a developed futures market requires active participation of both hedgers and speculators.

While hedgers try to secure a price now to protect themselves against future price variation, speculators secure a price now in anticipation of rising prices. Unlike hedgers, speculators do not seek to own the commodity. They are more interested in buying and selling commodities for the sake of profits only. Speculators are just the opposite of hedgers who try to immunize themselves from price rise. A company would hedge against rise in interest prices if it wishes to seek a loan after six months while a jeweer would hedge against rising gold and silver prices after a few months.

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