Warrants help

[NewCollector]

Sorry for the long read

With the correction of the market buying opportunities have presented themselves through quality stocks with great dividend yields, like LPTs in ASX100 yielding 10%+. I want to take advantage of this through purchasing warrants but haven't used this derivative before.

My plan is more on investing rather than trading. I plan to purchase long term warrants (many years left till exercise date) and use the dividend repayments to pay interest, fees and lower loan ammount. These high yield stocks purchased will hopefully have enough annual dividends (at these prices) to fully pay for the holding costs of the warrant. At exercise date I will take possession of the underlying stock which will hopefully have increased in CG. I just have a few questions on warrants before I impliment this strategy


1) What is the average interest payable on the loan ammount, ie: is there a standard charged above the base IR.

2) what are the rough purchasing and ongoing costs with warrants.

3) If I purchase the warrants on market through my etrade account how will the issuer identify me as the owner of the warrant and how will I go about paying the annual interest and fees.

4) Is there any risks in warrants apart from stock being lower than exercise price. Would like to hear peoples experiences with warrants - particularly those that didn't work out too well.

5) What do people think of my approach. Could it be improved.

Thanks and happy easter all.

 

[RichKid]

Sorry for the long read

With the correction of the market buying opportunities have presented themselves through quality stocks with great dividend yields, like LPTs in ASX100 yielding 10%+. I want to take advantage of this through purchasing warrants but haven't used this derivative before.

My plan is more on investing rather than trading. I plan to purchase long term warrants (many years left till exercise date) and use the dividend repayments to pay interest, fees and lower loan ammount. These high yield stocks purchased will hopefully have enough annual dividends (at these prices) to fully pay for the holding costs of the warrant. At exercise date I will take possession of the underlying stock which will hopefully have increased in CG. I just have a few questions on warrants before I impliment this strategy


1) What is the average interest payable on the loan ammount, ie: is there a standard charged above the base IR.

2) what are the rough purchasing and ongoing costs with warrants.

3) If I purchase the warrants on market through my etrade account how will the issuer identify me as the owner of the warrant and how will I go about paying the annual interest and fees.

4) Is there any risks in warrants apart from stock being lower than exercise price. Would like to hear peoples experiences with warrants - particularly those that didn't work out too well.

5) What do people think of my approach. Could it be improved.

Thanks and happy easter all.

Hi NewCollector,

Here's my 2c worth since I've generally considered this strategy as well.

Some issues- will the stock blow up? High yields alone don't make a good investment.

How much of a premium are you paying for the 'loan' built into the warrant compared to another type of loan (eg margin loan)- see the pds and the issuer website.

Is the warrant overpriced? (Wayne has some excellent threads here on warrant and option pricing).

Read each pds carefully as some issuers don't pass on special dividends to you- check this.

Find a warrant product that suits your tax and risk profile- you'll need to consider your timeframe.

I would create a ss of at least three different instruments and compare risk and reward for each variable (eg warrant v margin loan v option v straight stock in terms of time/price/interest costs/tax benefits etc). You could use BHP or WDC as examples and create some models to see the effect of choosing one over another, trust me it takes time but it's your money so it's worth doing the research.

Hope this helps, I'm often confused by derivatives. ASF has a lot of information in the Derivatives forum- look for posts by WayneL, Magdoran and Sails and other derivatives traders.

 

[reece55]

Hi NewCollector,

Here's my 2c worth since I've generally considered this strategy as well.

Some issues- will the stock blow up? High yields alone don't make a good investment.

How much of a premium are you paying for the 'loan' built into the warrant compared to another type of loan (eg margin loan).

Is the warrant overpriced? (Wayne has some excellent threads here on warrant and option pricing).

Read each pds carefully as some issuers don't pass on special dividends to you- check this.

Find a warrant product that suits your tax and risk profile- you'll need to consider your timeframe.

RichKids got some good points here, for me with warrants the biggest point is to make sure your not getting screwed on the pricing. OTM warrants can be an extremely expensive way of getting leveraged access to a share price compared with say a call option (once again, Wayne has a lot of info on this sight in references to these kinds of issues)...

The other point I would have is to be VERY careful about the entity you are looking at buying in this market in the REIT sector. They have outperformed for ages and now have crashed. Yields are high, but most are not very sustainable in the longer term, particularly if we have a protracted inoperable debt market place.... You only have to look at the Rubicons to see what happens if you're not careful about what you buy...

If you are looking for long term warrants, then the self funding warrants are a great way of going about it. They offer moderate gearing (say 50%), dividends paid on the underlying reduce the loan so potentially your divy could pay the interest costs and then some whilst you (hopefully) bask in the capital growth...

All the best.

 

[wayneL]

Best thing is to run the current prices through Black-Scholes to see whether your getting screwed on price or not.

If you don't have a modeler, post the warrant up here with details of the stock's dividend, current price, 100 day historical volatility etc and we can determine the correct pricing.

 

[NewCollector]

Thanks for the responses guys.

Looking at warrants mainly due to the leverage exposure without the risk of margin calls. As an example (this is not an actual trade to be performed, its just to help me understand this derivative)

Say warrant SGPSMW (stockland installment warrant expiry date 29/06/12)

SGP
-------
Last traded $6.54
Dividends (2007) $0.454 = 6.94% yield at current price
good long term trend

SGPSMW warrant
-------
exercise price $4.988
Last traded $2.330
Interest Rate = BBSY + maximum 2.5% margin (couldn't find what current bank bill rate is)

So based on these figures, assuming an interest rate of 11%, for each warrant I would need to pay $2.33 to control a stock worth $6.54. For the annual IR repayment I would need to pay

$4.988 * 0.11 = $0.54868 per year to hold warrant

Dividends is $0.454 so therefore I need $0.54868-$0.454 = $0.09468 out of pocket. Compare this out of pocket expence to current share price

$0.09468 / $6.54 = 1.477%

ie: stock needs to rise 1.477% every year till expiry for me to be in the green. Going from the long term trend chart I would be confident in this stock rising that much compounded over 4 years.

So what are peoples thoughts. I know my approach is very basic, just simple maths, but thats where my current understanding is with warrants.

 

[wayneL]

We need to know the tradeable price NOW. The last traded price is irrelevant and could be from days ago... and must be, because it's not even intrinsic value.

What is the current asking price? Should be around $2.80-$3.20ish or more. We also need an idea of native volatility of this baby. Can anyone find the 100 day historical volatility of this puppy?

(I don't have ASX data)

 

[reece55]

We need to know the tradeable price NOW. The last traded price is irrelevant and could be from days ago... and must be, because it's not even intrinsic value.

What is the current asking price? Should be around $2.80-$3.20ish or more. We also need an idea of native volatility of this baby. Can anyone find the 100 day historical volatility of this puppy?

(I don't have ASX data)

I have 100 day historical volatility at 36.59%.... But I suspect the IV of the stock at the moment would be a lot higher, with recent rates at a minimum of 40%...

Everyone is welcome to pinch my little template if you like, helps me perform option valuations for accounting (YAY!).

Cheers

 

[wayneL]

I have 100 day historical volatility at 36.59%.... But I suspect the IV of the stock at the moment would be a lot higher, with recent rates at a minimum of 40%...

Everyone is welcome to pinch my little template if you like, helps me perform option valuations for accounting (YAY!).

Cheers

Cheers Reece, nice spreadsheet mate.

Looking at those HV figures, we could be seeing IVs much higher... perhaps 50% or more. That would price the option at $3.60 or at 40% about $3.30.

Be interesting where the bid/ask is. I can't imagine the MMs giving these away at the moment.

FWIW If it were me looking at this: You've got huge vega in a warrant with such a long expiry. When vols simmer down the value of this warrant could get seriously crunched. Caution!

 

[RichKid]

VolTracker has some info here but it's subscription only, http://www.impliedvolatility.com.au , we were trying to promote the site here as there aren't many in Australia for option volatility data: https://www.aussiestockforums.com/forums/showthread.php?p=227639#post227639

thanks for the ss reece!

 

[reece55]

Cheers Reece, nice spreadsheet mate.

Looking at those HV figures, we could be seeing IVs much higher... perhaps 50% or more. That would price the option at $3.60 or at 40% about $3.30.

Be interesting where the bid/ask is. I can't imagine the MMs giving these away at the moment.

FWIW If it were me looking at this: You've got huge vega in a warrant with such a long expiry. When vols simmer down the value of this warrant could get seriously crunched. Caution!

No worries Wayne, comes in handy (we can't afford a Bloomberg subscription at work so sometimes I have to do a little bit of template work!)......

NewCollector, just to clarify Wayne's last comment, in the event you don't know the meaning of the Greeks in options, vega is the options/warrants sensitivity to a change in implied volatility. If you take a look at the spreadsheet, you will note that up until the market crash, the volatility of SGP was say about 20%, but in this environment has almost doubled to at least 40%. So the issue here is that if you overpay on implied volatility, you could find your warrant is worth less in two months from now even if it moves in the direction you want it to. It is really weighing up paying for the benefit of something that is volatile now to get in at a low price, risking the potential that its price variation will slow down and the share become range bound. If it were me, the last place I would want to be now is long vega, because I think volatility is going to come down and we could be faced with range bound trading conditions - a deadly combo for this particular warrant...

Cheers

 

[Markcoinoz]

Good to see that there are still a few that play the Warrants.

I haven't touched them for a couple of years.

If you haven't already seen it, here is a Option/Warrant Calculator that i used to use fairly regularly for pricing, volatility, time. Black & Scholes Option Calculation method.

http://www.hoadley.net/options/optiongraphs.aspx?warrant=Y

You can only use it 15 times in one session I think as a freebie.

However, if you set up a spreadsheet you can put in a "What If" scenario to give you some ideas on pricing over a period of time. As well you can compare the Calls to the Puts. I used to concentrate mainly with BHP and the Banks.

Cheers markcoinoz

 

[VolTracker]

You can still get free IV & 20 day HV data here:

http://www.impliedvolatility.com.au/marketaction.htm

The IV data is updated around 11.25pm, 2.10pm and 4.30pm daily, so you can get delayed intraday IV's.

cheers all