After helping the Tigers to promotion to the top flight for the first time in their history, Pedersen is going back to his homeland for family reasons.
But the 33-year-old ex-Bolton man will not retire from the game as he is joining home-town team Silkeborg IF. City boss Phil Brown told BBC Radio Humberside: "It's a disappointing one. It's a shock to everybody."
But the former Denmark international will part company on good terms after a memorable 11 months with the Tigers.
"It's a decision I respect as it's for family reasons," added Brown, who also had Pedersen under his command in his days as number two to Sam Allardyce at Bolton. "He has commitments back in Denmark.
"There was a year's contract on the table and Henrik's asked permission to come out of that.
"He wants to continue playing football. But he's promised he will only play for his home town team back in Denmark, Silkeborg. And we wish him all the best of course we do."