Coverage in financial terms is called the set of operations aimed at reducing or directly canceling the risk of a financial asset or liability. This term in English is known as Hedging.

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It seems like a very novel concept, but it’s really very similar to any insurance contract like the ones we already use (car insurance, home…), since it’s used to guarantee the initial capital.

What does coverage consist of?

Coverage operations consist of the acquisition or sale of a financial asset that is correlated with the element on which the coverage is to be established. Said acquisition or sale can be of stocks, indices, interest rates, options, futures, etc.

Types

There are several coverage strategies, but the main ones, in which they can be included would be three:

1) Currency coverage

Also called exchange coverage. The main objective of coverage is to ensure the risk of price variation due to interest rates or exchange rates.

The main method of covering this risk consists of acquiring products for such purpose, such as currency swaps, forward contracts and options.

2) Stock portfolio coverage

Stock coverage or stock market investment coverage would be used in the same way as the previous option, to cover the risk of a possible drop in the quotation value of our portfolio.

One of the most common strategies used as coverage is buying put options (known as PUT) for the same value as the investment, to replicate the value.

3) Interest rate coverage

It is an option that would allow protection against market oscillations that would produce increases in interest rates.

In general, products are used that allow setting a limit to the rise in rates or establish a fixed rate to interest to avoid large changes (or none). They are usually offered by banking entities.

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We hope this information is very useful to you.