Reviewed by Aug 27, 2020| Updated on
What is a Warrant?
Warrants are a contract that gives the right, but not the duty, to buy or sell a security—most usually, equity—before expiry at a certain amount. The price at which the underlying security may be bought or sold is called the exercise price or the strike price.
The Indian and American warrants may be executed at any time on or before the expiry date, while European warrants can be exercised only on the expiry date.
Warrants giving the right to buy a security are referred to as call warrants; those giving the right to sell a security are known as put warrants.
How a Warrant Works
Warrants are similar to options in many respects, but they are differentiated by a few key factors. Companies usually provide warrants themselves, not by a third party, and are traded more often over-the-counter than on an exchange. Investors cannot write warrants as they want.
Warrants are dilutive, in contrast to options. When an investor exercises his warrant, they receive newly issued stock rather than the stock that is already outstanding. Warrants appear to have much longer periods than alternatives between problem and expiry, typically years rather than months.
Warrants do not pay dividends or come with the right to vote. Investors are drawn to warrants as a way to leverage their positions in a company, to hedge against downside (for example, by combining a put warrant with a long position in the underlying stock) or to maximize arbitrage opportunity.
Types Of Warrants
In tandem with bonds, which in turn are called warrant-linked bonds, conventional warrants are issued as a sweetener that enables the issuer to offer a lower coupon rate. Such warrants are often detachable, which ensures they can be removed from the bond and sold before expiry on the secondary markets. It may also issue a detachable warrant in accordance with preferred stock.