In finance, a warrant is a security that entitles the holder to buy the underlying stock at a fixed price until the warrant expires (American style) or at the expiration date (European style). In this context, the term warrant means “to endow with the right”. Warrants are often attached to bonds or preferred stock as an extra bonus.
A warrant shares several similarities with a call option. Just like the holder of an option isn’t obliged to exercise the option, the holder of a warrant can freely chose to exercise the warrant or not. Another major similarity between options and warrants is that they both come with an expiration date and are rendered worthless once they have expired.
Warrants and call options – similarities and differences
- A traditional warrant is similar to a call option, since they both give the holder the right to buy something.
- Warrants are especially similar to equity options, since both instruments give the holder the right to purchase equity.
- Warrants are typically issued by the corporation on which the warrant is based. Call options are more likely to be issued by a public options exchange or similar.
- Both call options and warrants are traded in secondary markets. Unlike options, warrants are considered over the counter (OTC) instruments. When it comes to options, some are traded OTC but exchange-listed options are also available.N.B! There are a few exceptions to this, including Deutsche Börse and Hong Kong Stock Exchange where warrants are traded.
- In general, a newly issued warrant will have its expiration date many years into the future. (Some warrants are valid for 12 years or more!) A newly issued option will on the other hand typically have a life span that is measured in months, not years. At the time of writing, the longest stock options available are called long-term equity anticipation securities (LEAPS) and they, even though they are exceptional long-living compared to other options, normally have a life span of no more than 2-3 years.
- When you exercise a warrant issued by the corporation on which the warrant is based, the company will fulfill its obligation by issuing new shares of stock and give to you. This means that stock dilution takes place when the warrant is exercised.When you exercise a call option, you receive an existing share. No stock dilution takes place. An important exception are employee stock options, which (in this regard) function like warrants rather than normal call options.
Examples of warrants
- Traditional / Classic warrantsThese warrants are issued in conjunction with a bond (a warrant-linked bond). They give their holder the right to acquire shares in the entity issuing the bond.
- Naked warrantsNaked warrants are issued without being attached to a bond. The issuer is normally a bank or a securities firm.
- Third party warrantsWarrants issued by a third party.
- Equity warrantsThese warrants can be call warrants (callable warrants) or put warrants (puttable warrants). Call warrants give the holder a right to buy, put warrants give the holder a right to sell.
- Covered warrantsThis is a warrant that has underlying backing. The issuer can for instance create a covered warrant by purchasing stock to cover the warrant.
- Wedding warrants
A wedding warrant can be attached only of the host debentures are surrendered. ‘
- Cash or Share warrantsThis is a warrant for which the settlement can be made either in cash or in the physical delivery of shares.
- Exotic warrantsWithin the group Exotic Warrants you will find warrants such as the Hit-warrant, the Snail warrant, the Turbo warrant and the Covered warrant.