Warrant

A warrant is a security that embodies a right, but not an obligation. Whoever holds a warrant is allowed to buy or sell a specific asset – for example a share – at a price fixed in advance. This right only applies until a fixed expiry date, after which it lapses. So you’re not buying the share itself, but only the possibility of obtaining it at a specific price. This possibility costs significantly less than the share – and that is precisely where the appeal and the risk come from.

The leverage: why small price movements have a big effect

A calculation example makes the principle tangible. A share costs 100 euros. A warrant gives you the right to buy it for 100 euros, and costs 5 euros. If the share rises to 110 euros, your right is suddenly worth 10 euros. The share has gained 10 percent, your warrant around 100 percent. This amplification effect is called leverage.

The leverage works in both directions, and that is often underestimated. If the share stays at 100 euros or falls, the right is worthless on the expiry date. Nobody buys for 100 euros what costs 90 euros on the stock exchange. The 5 euros invested are then completely gone – not just partially. With a share you rarely lose everything, with a warrant that happens regularly.

That is why warrants are considered an instrument for experienced investors and not a building block for saving. Regulators require banks to explicitly inform customers about the risk of total loss before purchase. Professional investors also use warrants for hedging: whoever owns many shares can protect themselves against falling prices with a put right.

What determines the price of a warrant

The price is made up of two parts. The intrinsic value is what the right would yield immediately. If the share is at 110 euros and the fixed price is 100 euros, the intrinsic value is 10 euros. If the share is below the fixed price, the intrinsic value is zero. The second part is called time value.

The time value pays for the hope that the price will still move before the expiry date. The longer the remaining term, the more this hope is worth. The more strongly the price of the underlying asset typically fluctuates, the more expensive the warrant also becomes. This tendency to fluctuate is called volatility. With every day that passes, the time value melts away – on the expiry date it is zero.

It is important to distinguish this from an option on the futures exchange. An option is a standardized contract between two market participants. A warrant, on the other hand, is a security issued by a bank, which itself sets the terms. The buyer therefore also bears the risk that this bank becomes insolvent. That is exactly what happened in 2008 with certificates from the bank Lehman Brothers.

Warrants in stock market news and at tech companies

In Germany, warrants are traded mainly via the Stuttgart and Frankfurt stock exchanges. Banks such as Société Générale or DZ Bank continuously issue thousands of new warrants, on shares, indices, commodities, or currencies. In price lists you can recognize them by labels such as “Call” for a right to buy and “Put” for a right to sell.

The term also becomes interesting in tech news. When a start-up goes public via a so-called SPAC merger, early investors often receive warrants as an add-on. They are then allowed to buy shares later at a fixed price. Large corporations also secure stakes in partners this way, without tying up a lot of money immediately.

For users of stock market apps, warrants are therefore omnipresent, but rarely harmless. A typical misconception is: a warrant is simply a cheaper share. That is not true. It is a right with an expiry date, whose value can fall even if the share price does not move at all.