Portfolio Insurance: A Guide to Risk Management for Traders

Portfolio insurance is an unfamiliar trading tool for many investors. This tool allows you to limit the overall risk of your portfolio and helps hedge your portfolio in volatile market conditions. Here are the basics of portfolio insurance and how it could be beneficial to you as a trader.

Portfolio Insurance

Portfolio insurance is a hedging mechanism that is used by advanced traders. In order to implement the strategy, a trader can purchase short stock index futures as part of their overall portfolio. Then, if the market goes down, the short index futures will provide them with a profit. In this way, investors are protected from loss, regardless of which way the market decides to go.

Biggest Drawback

Although this method can help you prevent major losses if the market or to take a downturn, it also negates any profits that you will make when the market goes up. Since you are betting part of your money on the market going down, it will not be beneficial  if your stocks values increase. This tool should only be utilized as a short-term method because the stock market has historically increased over time.