Warrant

What Is a Warrant?

A warrant is a type of derivative security that gives the holder the right to buy shares of a company's common stock at a fixed price, called the exercise price or strike price, on or before a specified expiration date. Unlike an option, which is usually created by an exchange or traded between investors, a warrant is typically issued directly by the company itself. When the holder exercises the warrant, the company creates and delivers new shares, which can raise the company's share count and bring in cash.

How Warrants Work

Companies often attach warrants to other offerings, such as bonds or preferred stock, to make those offerings more attractive to buyers. Warrants can also be issued as a reward to lenders or underwriters. Warrants commonly last several years, and some last longer than standard listed options. If the company's stock trades above the exercise price before expiration, exercising the warrant can be worthwhile. If it does not, the warrant may expire with no value.

A warrant's value depends on several factors, including the current share price, the exercise price, the time left until expiration, and the expected volatility of the stock. Because a warrant gives its holder exposure to price movements with a smaller upfront cost than buying shares, its price tends to move by a larger percentage than the underlying stock.

Example

Suppose a company's stock trades at 20 dollars and it issues a warrant that lets the holder buy one share at 25 dollars for the next five years. If the stock later rises to 35 dollars, the holder could exercise the warrant, pay 25 dollars per share, and receive a share now worth 35 dollars. If the stock stays below 25 dollars until expiration, the warrant would have no exercise value.

Why Warrants Matter to Investors

Warrants can add leverage to an investment, but they also carry risk. Their value can fall to zero, and existing shareholders may experience dilution when new shares are issued. Investors often compare warrants with other ways to gain exposure to a stock, such as holding the shares directly or using a call option. Understanding the terms of a specific warrant, including its exercise price, expiration date, and any adjustment provisions, is an important first step.