Stock Warrants vs Options
Stock warrants convey the right to purchase shares of stock at a set price on a set date directly from the public company that issues them. Stock options convey the right to buy or sell shares on or before a specific date at a specific price.
Warrants and options share some similarities but they also have some key characteristics that set them apart from each other. It’s important for investors to understand the difference between warrants and options.
Stock Warrants
A stock warrant is a contract that allows the holder the right to buy shares of stock at a future date at a specified price. The wording in a stock warrant typically allows the holder to purchase shares at a premium to the stock’s price at the time of issue.
Companies issue stock warrants directly to investors. The companies set the terms of the warrant, including the stock’s purchase price and the final date by which the investor can exercise the warrant. Warrant holders do not have an obligation to buy the shares, but if they decide to do so they would exercise the warrants via their brokerage account.
Public companies may issue stock warrants as a means of raising capital to fund new expansion projects. A company may also issue stock warrants to investors if it faces financial trouble and needs to raise funds to avoid a bankruptcy filing.
Stock Options
A stock option is a contract that gives holders the right – not the obligation – to buy or that represents the right, but not the obligation, to buy (in the case of a call) or sell (in the case of a put option) an underlying security on or before a specified date at a specified price. With stock options, holders of the contract do not have to buy the underlying shares, but they have the right to do so.
Again, the options holder does not have to buy; they simply have the right to do so. Exercising options means you agree to buy the shares If an investor chooses not to exercise the option, it expires worthless. Investors can trade some options on a public exchange alongside stocks and other securities.
Similarities and Differences Between Warrants and Options
Warrants and options sound alike and at first glance, they seem to imply the same thing: A right to trade shares of a particular stock. But there are also important differences between these two contracts that investors need to understand.
Similarities
Warrants and options both offer investors an opportunity to gain exposure to a particular stock without requiring them to purchase shares.
With both warrants and options, the investor must exercise the security to actually acquire shares. Both have specific guidelines with regard to the price at which investors can purchase (or sell in the case of put options) their shares and the deadline for exercising them.
Warrants and options are both speculative in nature, since investors are essentially betting on which way the underlying asset’s price will move. Investors can use different strategies when trading options or exercising warrants to maximize profitability while minimizing losses.
Differences
Warrants and options also have important differences. While companies issue stock warrants, traders typically buy and sell options with each other directly. Warrants create new shares of companies, while options do not cause any dilution.
When investors exercise a warrant, they receive the stock directly from the company, while options are settled between traders.
Stock Warrants vs Stock Options: A Summary
Here’s a closer look at options vs. warrants.
| Stock Warrants | Stock Options |
|---|---|
| Confers the right to purchase shares of stock at a specified price on a specified date. | Confers the right to buy (in the case of a call) or sell (in the case of a put) shares of stock at a specified price on or before a specified date. Holders of the contract have the right, but not the obligation, to exercise the contract. |
| Warrants create new shares, which can result in dilution. | Options do not create new shares so there’s no dilution. |
| Issued by the company directly to investors. | Issued by traders who write call or put options. |
| Original issue warrants are not listed on exchanges, but there is a secondary market for the securities. | Options can be traded on public exchanges alongside other securities. |
| Used to raise capital for the company. | Traders can write options to maximize profits based on price movements. |
| Warrant holders may have a decade or more in which to exercise their right to buy shares. | Options tend to be shorter-term in nature, with expiration periods lasting anywhere from a few days up to 18 months. |
| Less commonly used in the U.S. | Options are regularly traded on public exchanges in the U.S. |
Pros and Cons of Warrants
If you’re considering warrants versus options, it’s helpful to understand what’s good — and potentially bad — about them. Stock warrants can offer both advantages and disadvantages to investors. Whether it makes sense to include stock warrants in a portfolio can depend on your individual goals, time horizon for investing and risk tolerance.
| Stock Warrant Pros | Stock Warrant Cons |
|---|---|
| Warrant holders have the right to purchase shares of stock but are not required to do so. | Price volatility can diminish the value of stock warrants over time. |
| Stocks may be offered to investors at a premium price to the current market price. | When warrants are exercised, new shares are issued which can result in dilution. |
Pros and Cons of Options
Like stock warrants, there trading stock options has both upsides and potential downsides. Beginning traders may benefit from having a guide to options exercising to help them understand the complexities and risks involved. Here are some of the key points to know about trading options.
| Stock Option Pros | Stock Option Cons |
|---|---|
| Higher return potential compared to trading individual shares of stock. | Stock options are more sensitive to volatility which can mean higher risk for investors. |
| May be suited to active day traders who are hoping to capitalize on short-term price movements. | Frequent options trades can mean paying more in commissions, detracting from overall returns. |
| Traders can use options as a hedging tool to manage risk in uncertain market environments. | Time value constantly decays the value of options. |
The Takeaway
Understanding the difference between options and warrants matters if you’re considering either of these investment strategies. If you’re interested in how to trade options or how to invest in stock warrants, it’s helpful to know how options vs. warrants compare and what they’re designed to do.
While SoFi does not currently offer options trading, you can get started building an investment portfolio. Once you open a brokerage account on the SoFi Invest® stock trading app, you can build a portfolio of stocks, exchange-traded funds, cryptocurrency and even IPOs to save and invest toward your goals.
FAQ
Is a warrant the same thing as an option?
No. Warrants and options are not the same thing. Companies issue stock warrants to give investors the right to buy shares of stock at a specified price on a specified date. Stock warrants can allow investors to purchase shares of stock at a premium while giving them plenty of time in which to decide whether to exercise the warrant.
Options are derivatives contracts that give buyers the right, but not the obligation to buy (in the case of a call) or sell (in the case of a put) an asset at a specific price within a certain period of time.
Can warrants exist in a SPAC?
Yes. A Special Purpose Acquisition Company, SPACs, are typically created for the purpose of acquiring or merging with an existing company. This type of arrangement allows private companies to circumvent the traditional IPO process. A SPAC may use warrants to raise capital from investors. These warrants are generally good for up to five years following the completion of a merger or acquisition.
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