Warrant finance: Encyclopedia - Warrant finance

Warrant (finance)

Securities
Bond
Commercial paper
Hybrid security
Stock
Warrant

Markets
Bond market
Stock market
Stock exchange

Stocks
Share
Stock
Warrant

Bonds by coupon
Fixed rate bond
Floating rate note
Zero coupon bond
Inflation-indexed bond

Bonds by collateral
Asset-backed security
Collateralized debt obligation
Collateralized mortgage obligation
Credit linked note
Mortgage-backed security
Unsecured bond

Bonds by issuer
Corporate bond
Government bond
Municipal bond
Sovereign bond

A warrant is a security that gives the holder the right, but not the obligation, to buy or sell a certain additional quantity of an underlying security at an agreed-upon price. The right to buy the underlying security is referred to as a call warrant; the right to sell it is known as a put warrant. In this way a warrant is very similar to an option. When a warrant is exercised, a new share of stock is created, whereas when an option is exercised, the owner of the option receives an existing share that is delivered by a counterparty (except in the case of employee stock options, where new shares are created and issued by the company upon exercise).

There are two types of warrants: "traditional" warrants and so-called naked warrants.

Traditional warrants are issued in conjunction with a bond (known as a warrant-linked bond), and represent the right to acquire shares in the entity issuing the bond. In other words, the writer of a traditional warrant is also the issuer of the underlying instrument. Warrants are issued in this way as a 'sweetener' to make the bond issue more attractive, and to reduce the interest rate that must be offered in order to sell the bond issue.

Naked warrants are issued without an accompanying bond, and like traditional warrants, are traded on the stock exchange. They are typically issued by banks and securities firms. These are also refered to as covered warrants. The writer of a naked warrant need not be the issuer of the underlying instrument. A naked warrant is essentially an option with a very long time to expiry. Therefore an employee stock option is also equivalent to a warrant.

Also, when a government agency issues checks which they are unable to pay (due to lack of money) but are redeemable at some point in the future, usually with interest, these are also called warrants. A few years ago, when the State of California had a budget crisis due to a disagreement between the governor and the legislature, the state treasurer was forced to issue warrants paying 18% interest in lieu of being able to pay the state's bills with real money. The state had not had to rely on this practice since before the Depression of the 1930s Many places were accepting them at face value because of the interest provision. It was interesting that during this period the Controller of Los Angeles County was buying state warrants to invest the county's surplus funds because the county, on the other hand, actually had money and the interest rate was better than any bank would pay.

Warrant finance - Traded warrants

See also

• List of finance topics
• Option
• Stock option
• Derivative (finance)
• Derivatives market

Categories: Corporate finance | Options | Equity securities

Adapted from the Wikipedia article "Warrant finance", under the G.N U Free Docmentation License. Please also see http://en.wikipedia.org/wiki