Trader Resources : Hedging in the Futures Markets : Hedging as a Risk Management Tool
There are two types of risk that are important to hedgers:

• Business risk – variation in income caused by variations in price and production.
• Financial risk – risk associated with the ability to repay creditors.

Because business risk can create financial risk, and business risk is the result of price and production risk, controlling both price and production risk is essential to controlling financial risk. Production risk can be managed by production insurance (crop insurance), product diversification, and sound production management practices.

Hedging is used to manage price risk, and when combined with sound management of production risk, business risk can be minimized. This in turn minimizes financial risk. Hence, hedging is a very important technique in managing risk.

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