Warrant

Updated on 2023-08-29T11:55:49.731109Z

What is a warrant?

A warrant is a financial instrument that is either issued by financial institutions or banks. The warrant provides an alternative to the investors to gain exposure to a different asset class such as shares.

The instalment warrants are quoted on the exchanges and can cover a various number of securities. The instalment warrants can be issued over the international shares, domestic shares, currencies, commodities and share price indices. The warrant provides the following benefits to the investor –

• Exposure is leveraged in the share market and shares, commodities, debt, currencies and so on are covered by the warrants.
• The income stream can be generated in the form of franked credits and dividends.
• The value of the share portfolio can be protected by the instalment warrants.

Frequently Asked Questions (FAQs)

What are the features of the instalment warrants?

By investing in the warrants, the investor gains the right to buy the security by making part of the payment, while the final payment is made on the purchase of the asset by utilising the right to buy. The other features of an instalment warrant are:

• The warrant holder is entitled to the dividends, franking credits, and the distributions just like the ownership of the shares.
• They are issued by the financial institutions with a holding period of 1 to 15 years in general.
• The warrants can be traded on the exchange with the help of the broker, thus providing liquidity.
• They are offered over the securities, LICs, ETFs, blue chip stocks and currencies.
• Self-Managed Super Funds (SMSFs) eligibility.
• The credits of the buyer are checked before issuing the warrant.
• The loan amount in the instalment warrant must be paid back by the buyer.

How to purchase an instalment warrant?

To purchase an instalment warrants, it is crucial to understand the structure of the instalment warrants. Let us say that the cost of a single share is $10.00 and the cost of buying a single warrant is $5.50. The cost is the combination of two components. $5.00 is the capital payment and the rest of the amount ($0.5) is the funding cost which will be paid to the warrant issuer. The funding cost can also be the loan protection, interest on the loan amount or the borrowing fee (if applicable). $5.00 amount is loaned by the lender, and in case the holder of the warrant wishes to take ownership of the shares or the underlying asset, then the loan amount must be paid by the holder. With the change in the price of the underlying asset, the instalment amount ($5.50 in the present example) will change, however, the loan amount will remain constant.

What is the relationship between the underlying asset, issuer, and the investor in the instalment warrants?

The investor buys instalment warrants from the issuer in exchange for the cash. The issuer must buy the underlying asset while issuing the instalment warrants (or should have the ownership of the asset while the right to buy is exercised by the holder). Lastly, the buyer of the instalment warrants (investor) will receive the franking credits and dividends.

Where to buy the instalment warrants?

Instalment warrants can be purchased from the primary market with the warrant issuers by utilising the shareholders, roll over and cash application forms. With the help of an internet broker and a licensed adviser, they can be purchased from the secondary market as well.

What are the benefits of the instalment warrants?

With instalment warrants, range of strategies can be created –

• The position of the buyer can be leveraged.
• The investor can diversify their portfolio.
• The dividend yield can be enhanced in comparison to the investment in the shares.
• The wealth of the existing shareholdings can be unlocked.
• It is applicable in the self-managed super funds (SMSFs).
• The partial payment is made to gain ownership of the instalment warrants.
• The downside risk is limited.
• The taxation benefits are extensive.
• The franking credits are received.
• They can be traded on the security exchange.
• The interest related expenses are deductible.

What risks are associated with the instalment warrants?

The instalment warrants are issued by various investment banks and each instalment warrant is unique. Therefore, the buyer of the instalment warrants should read all the disclosure statements to gain a proper understanding of the dividends, underlying assets, their relationship with the instalment warrants and the gearing.

What is a high leverage instalment?

The variation of the vanilla product is known as the high leverage instalment. In this, the first payment Is lower and the payment at the end is generally high. The funding cost is higher as the put option price is higher in the vanilla warrants.

How instalment warrants extend portfolio diversification benefit?

Instalment warrants act as a vehicle to release funds from the portfolio and invest them in other assets without the nexus for Capital Gains Tax (CGT). By investing in the instalment warrants, the investor has the exposure to the shares and have the capital to invest further without being worried about the CGT liability.

How is tax treated in the instalment warrants?

When a person invests in the instalment warrants, they are borrowing a part of the share’s price. The instalment warrants holder can be in two positions, first, he/she has only paid the interest amount and second the payment of the borrowed amount has been made. Depending upon the situation of the holder, the taxation is conducted.