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How do the warrants issue companies earn profit?
I'm kind of understand the basic concept of warrants, exercise price, leverage, expiry date, hedging and premium. And I know the relationships between the price of warrant and timing, implied volatity, leverage ration and so on. Nevertheless, I counldn't figure out how the Warrant issuers earn profit from issue both call and put warrants. Can someone helps me out, I'm really appreciate that.
I wanna know how the company can earn profit from issuing warrants?
Not the definitions of those specific words which I understand that.
- Chris ChanLv 71 十年前最愛解答
What is a warrants?
Warrant is a right but not an obligation to buy or sell a certain underlying assets (stock, index, currency, or commodity), at a pre-determined Price (called the Strike price or Exercise price), on or before a pre-determined Expiry Date.
There are two different types of warrants commonly called company warrants and covered warrants:
A company warrant (equity warrant)
is a funding exercise for the corporation that issues call warrants over its own stocks. On exercising, the company will issue new shares and deliver them to the exercising warrantholders against payment of the exercise price.
A covered warrant
is usually issued by an investment bank. The bank does not issue a warrant as a funding exercise but in order to provide investors with an efficient tool to manage their investment portfolio. The covered warrant is a listed security, traded on an exchange and constitutes a contract between the issuer and buyers of the warrant. The obligations of the issuer are materialised by the listing documents that detail all terms and conditions of the issue.
Warrants come in two different forms:
A call warrant
provides the warrantholder with a right, but not an obligation, to buy the underlying asset at a pre-determined price (strike price), within a certain time period.
A put warrant
provides the warrantholder with a right, but not an obligation, to sell the underlying asset at a pre-determined price (strike price), within a certain time period.
Warrants are either European or American style:
A European style warrant
allows the warrantholder to exercise his right only on the expiry date. Most Hong Kong listed warrants are European style.
An American style warrant
allows the warrantholder to exercise his right at any time between the listing date and expiry date. Here, we will focus on European Style Covered Warrants as they are the pre-dominant type of warrants traded in Hong Kong.
However, whichever style, European or American, the warrant can be sold at anytime before maturity in the market. In practice, warrantholders very rarely exercise the warrant. Most warrantholders sell the warrant before maturity.
Settlement / Expiry
Most warrants issued in Hong Kong are on a cash settlement basis and shares delivery does not occur. If the warrant expires In-The-Money, the cash settlement amount paid by the issuer will be transfered to the warrantholder's account. This amount will be calculated as:
The difference between the 5 day average closing price of the underlying (if it is an equity warrant) and the strike price divided by the entitlement ratio and multiplied by the number of warrants held.
9907.HK call warrant on Company A expired on May 30, 2000 with a strike price of HKD 27.09. The 5 day average closing pricing of Company A prior to the expiry date was HKD 49.64. The cash settlement amount of 9907.HK was calculated by subtracting the strike price from the average price and divide by the entitlement ratio [(HKD 49.64 - HKD 27.090) /10 = HKD 2.255]. The warrantholder therefore received HKD 2.255 for every warrant bought.
- RickyLv 71 十年前
I think the warrant you asked is derivative warrants, ie., issued by investment banks, not the listed companies.
Investment bank can earn money from issuing warrants because:
1. they can receive the warrant price (premium) from the first buyer of the warrant
2. they can arbitrage and make profit from the price difference between warrant price and stock price.
3. the will also hold the underlying stock. if stock price go up, their holding go up as well.
But investment bank could also loss money sometimes. LIke Beijing Holding. The investment banks bought a lot of the shares from the market and issue warrants. Once the warrants were issued, the stock price Beijing Holding dropped a lot. Their holdings in Beijing Holding dropped a lot, even bigger than the warrant price received. They lost a lot that time.