What Are Stock Warrants?

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DEFINITION

A stock warrant is the right to purchase newly issued shares of a stock at a certain price for a certain period of time. The stock is issued directly by the company.

Definition and Example of a Stock Warrant

A stock warrant is like a stock option in many ways. A stock option also gives the holder the right to buy shares at a fixed price during a defined period of time.

Longer-term stock warrants are typically good for up to 15 years. Stock options are shorter-term. They can expire in just weeks or in two or three years.

How Stock Warrants Work

Warrants are good for a fixed period of time. They're worthless once they expire. But the date is sometimes automatically extended under terms set by the company if the warrant isn't exercised by that deadline. The investor might have an additional two years.

The most frequent way warrants are used is in conjunction with a bond. A company issues a bond and attaches a warrant to the bond to make it more attractive to investors. The investor can redeem the warrant and buy the shares at the lower price if the issuing company's stock increases in price above the warrant's stated price. The stock is coming directly from the company. It's not being purchased from another investor.

The investor can redeem the warrant certificate if the warrant has an agreed-upon strike price of $20 per share and the market price of the stock rises to $25 per share. They can buy the shares for $20 per share, netting an immediate $5 per share gain.

The warrant expires if the stock never rises above the strike price. It becomes worthless. Warrants are more popular outside the United States, particularly in China.

Warrants come with no voting rights. They pay no dividends. U.S. stock warrants allow for purchase up until the expiration date. But this isn't necessarily the case for overseas warrants.

Types of Stock Warrants

A "put" warrant sets a certain amount of equity that can be sold back to the company at a given price. A "call" warrant guarantees your right to purchase a set number of shares at a certain price. Both have dates of expiration.

Different types of warrants have different degrees of risk and value:

Traditional Warrants

These are the warrants that are sold in conjunction with bonds. This allows for a lower coupon rate on the bond. They can often be detached and sold on the secondary market.

Naked Warrants

These warrants also allow the holder to exchange the certificate for a securities purchase, but they're not tied to a bond or preferred stock.

Wedded Warrants

Wedded warrants must remain attached to the bond. This means that the bond must also be surrendered if the holder wants to execute the warrant to get shares.

Covered Warrants

Covered warrants are issued by financial institutions, not by individual companies.

Key Takeaways

  • Stock warrants are issued directly by a company or financial institution.
  • They can last for up to 15 years.
  • They're typically attached to a bond offering to make the bond more appealing.
  • Stock warrants are more popular in China than in the United States.

Article Sources

  1. U.S. Securities and Exchange Commission. "Common Stock Purchase Warrant."

  2. Upcounsel.com. "Stock Warrants: Everything You Need to Know."