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Securities&Futures

Warrants

Warrants, this derivative product grants investors the right instead of obligation. Investors may buy related underlying assets which are stocks, currencies, indices, commodity futures on or before expiry date. Investors determine whether exercise their rights by themselves. Underlying assets of warrants are various. It could be single or specific portfolio of stock, commodity, index, currency or futures. It could be issued by listing companies or investment banks. The price of warrants is directly affected by the price of related underlying assets.
1

Category:

Call warrants, expecting the price of underlying assets goes up; bear contracts, expecting the price of underlying assets goes down. American Warrant: A holder can exercise his/her right to buy/sell related underlying assets; European Warrant: A holder can only exercise his/her right to buy/sell related underlying assets on expiry date.

2

Expiry Date:

Price of warrants can simply be classified into two parts: Intrinsic value and time value. The longer the time gap of a warrant related to expiry date, higher the time value, higher probability the price of the warrant becomes in the money, higher price of the warrant. In other words, price of a warrant will decrease along the time horizon. For long-term investment, it must be considered carefully.

3

Interest Rate::

If the interest rate goes up, it may save investors’ opportunity cost in investing in call warrants, and the price of call warrants is going up. On the other hand, it may reduce the opportunity in earning return, and the price of call warrants is going down.

4

Leverage Effect:

Price of a warrant is lower than its underlying assets, but its volatility is relatedly high. When price of a warrant becomes zero, an investor may loss all the principal. If underlying assets decrease 3%, the volatility of a warrant could be 30%, so Warrant is a high risk product, but it is an attractive characteristic which is “limited loss, unlimited gain”.

5

Credit Risk:

An issuer of warrant is an unsecured creditor. Investors cannot claim the underlying assets through related issuers, so investors need to bear issuers’ credit risk.

6

Low Trading Fees:

Compared with Stocks, an investor needs to pay commission, transaction levy, trading fee, without paying stamp duty.

7

Implied Volatility:

It helps evaluate whether the price of a warrant is justified. In general, different warrants linked to the same underlying assets, the warrant with lower implied volatility would be cheaper. Price of a warrant is affected by the price of its underlying assets. For example, although two stocks have the same appreciation, the implied volatility of stock A (which has many large jumping up and jumping down) is larger than stock B. According to the pricing model of warrants, the higher the volatility of underlying assets, the higher the implied volatility, the higher price of a warrant (no matter a call warrant or a put warrant). Since the price volatility of a stock is not constant, investors should mind the trend of the price volatility of stocks before trading warrants, such as smooth, going up or going down. If the price volatility of a stock may likely go up, it is better to buy warrants. No matter call warrants or put warrants, their price may go up.