What is Warrant?

Warrants are an investment product which gives investors the right but not the obligation to buy or sell the underlying asset at a pre-set price on or before a specified date with leverage factor. The underlying assets can be stock, currency, index and commodities futures.

Glossary

Underlying Asset

Warrants may be issued over a major of underlying assets, indices and stocks warrants are most popular in terms of quantity and turnover rate. There are fewer warrants for ETF (Exchange Traded Funds), commodities or currencies as related assets.

Strike Price

The holder of the warrant can exercise the price to buy or sell the relevant warrant on the expiry date. It can be adjusted downwards of the strike price by corporate actions such as rights issues and bonus shares.

According to the different value of the warrants, the market generally divides the warrants into three categories according to the difference between the strike price and the current price of the underlying assets, which are In-the-money, Out-of-the-money and At-the-money:

  Underlying Asset > Strike Price Underlying Asset = Strike Price Underlying Asset < Strike Price
Call Warrant In-the-money At-the-money Out-of-the-money
Put Warrant Out-of-the-money At-the-money In-the-money
Expiry Date

Warrants have an expiry date. A holder can only exercise his/her right to buy/sell related underlying assets on expiry date. Warrants are generally divided into European or American exercise style. The difference between the two is that Americans can exercise their warrants on any trading day during the investment period, while Europeans are subject to the expiry date. After the warrant expires, it will be delisted at the exchange and will be settled automatically.

Time value

The value of the warrants will fall when it approaches the expiry date. The main reason for the loss of the warrant price over time is that the warrants are getting closer to expiry. The value of the warrants exercised at expiry date will also gradually decline. If the warrant holders hold the warrants for a longer period and there is no change in the price of the relevant assets during the period, the warrant price will also fall. The loss of the daily time value of the warrants will change with the value of the warrants. The more out-of-the-money warrants, the greater the loss of time value.

Day to expiry

The remaining trading days of the warrants in the Stock Exchange

Last trading date

The date on which the warrants can be traded on the exchange on the last day. If the participant does not issue the warrant before the last trading day, they will have to wait for the stock settlement. The last trading day of the warrant is the four trading days prior to the expiry date.

Delta

Delt means issuer buys/buys a warrant, the number of shares of the relevant assets to be bought/sold at the time of hedging. If the hedge value of HSBC’s Call warrant is 0.2, each time the issuer issues a Call warrant, the issuer will need to buy 0.2 shares of HSBC stocks for hedging. Participants can calculate the theoretical rise and fall of the warrant based on the hedge value. However, the hedge value of the warrant will change with the price of the underlying asset, so the warrant price will increase or decrease more or less than the theoretical price. The hedging value of the warrant is from 0 to 1, and the hedging value of the warrant is from -1 to 0. The farther the warrant is, the closer the hedge value is to zero.

Gearing Ratio

The Gearing Ratio shows the multiple ratio between warrant and the relevant asset price in actual figures. The formula is as follows:
Related asset price / (Warrant price x Conversion ratio).

Effective gearing

1% change in the price of the underlying asset will reflect the theoretical variation of the warrant price.

Entitlement ratio

The number of warrants hold in order to redeem one of the relevant assets. If the conversion ratio of a certain Call Warrant of HSBC is 10 to 1, participant will have the right to exchange a HSBC shares in a settlement price during the expiration of the warrant when they hold every 10 Covered Warrants.

The conversion ratio of the share warrants is limited to 1, 10, 100 The ratio of the index warrants and other related assets is required to be a multiple of 10.

Outstanding

Outstanding is the number of warrants held by market participants (except the issuer). If the warrant outstanding is 70%, it means that the issuer still holds 30% of the issue, and the remaining 70% of the issue has been sold to the participants in the market. When the warrant outstanding exceeds 50%, the issuer can apply for additional warrants and will be listed after three trading days.

Implied volatility

Through Black-Scholes Model to put the price of the warrant and other factors such as the expiry date, the exercise price and etc. to reversibly calculate the implied volatility of the warrant. The implied volatility is an expectation of the market’s future volatility of the underlying asset price, which is also related to the over-the-counter (OTC) options market. However, this volatility data does not reflect the future volatility of the underlying assets and should only be used for reference purposes. In general, the warrants for similar terms, the lower the implied volatility, represent the lower price of the issuer and the standard of comparing the warrants.

Break Even point

Break Even Point is the rise or fall price of the underlying assets when they purchase warrant so that the participants can break even.

Call warrant cash settlement amount = (Settlement price of the underlying asset – Exercise price of the warrant)/ Conversion Ratio

Put warrant cash settlement amount = (Exercise price of the warrant – settlement price of the underlying asset)/ Conversion Ratio