What is a Warrant?

A warrant is a non-dividend paying security giving its owner the right to buy a certain number of shares at a set price directly from the issuing company. These usually have an initial life of between 3 and 5 years.

Characteristics

Warrants are often issued in conjuction with a new debt issue.

Including a warrant with the bond enables the issuing firm to float the bond issue at a lower interest rate than would otherwise be required. This may be the primary motivation for their issuance.

Warrants can be detachable and nondetachable, although the former are more important for our purposes. Detachable warrants may be sold separately from their accompanying debt issue. A nondetachable warrant cannot be sold separately.

Warrants pay no dividends, and they carry no voting rights. Their principal investment attraction is the leverage they provide; the warrant price is less than that of the corresponding common stock, and consequently warrant investments magnify the effect of stock price movements.

Warrants can have unusual exercise terms and conditions. The Standard & Poor's Stock Guide listing for many warrants indicates "terms and trading basis should be checked in detail." The majority of US warrants are from small, relatively risky firms. Newly issued warrants usually originate in conjunction with an initial public offering.

Some warrants are called "B" warrants. These come about from the exercise of an "A" warrant that allows its owner to trade the warrant for shares of stock and a "B" warrant with a higher exercise price than the "A" warrant.

Looking at warrant population by stock price range, the majority are from a firm whose stock price is low. While there may be no inherent reason why a low-priced stock should be risky, it is an empirical observation that a low stock price is frequently associated with higher relative risk.