DEFINITION of 'Detachable Warrant'

A detachable warrant is a derivative that is attached to a security which gives the holder the right to purchase an underlying security at a specific price within a certain time frame. A detachable warrant is often combined with various forms of debt offerings and can be removed by the holder and sold in the secondary market separately.

BREAKING DOWN 'Detachable Warrant'

A warrant is a security that gives the holder the right but not the obligation to purchase a certain number of shares in the issuer’s company at a specific price before a specified time. In this way, a warrant is similar to a call option. Warrants are often attached to preferred stock or newly issued bonds in order to encourage demand for the debt securities.

Warrants are often detachable. A detachable warrant can be traded independently of the package with which it was offered. Many issuing companies choose detachable warrants when issuing bonds because it makes a debt offering more attractive and can be a cost-effective method of raising new capital. The exposure to the rights provided by a detachable warrant can often gain the attention of investors who do not usually participate in the fixed-income markets. In effect, a bond issuer includes detachable warrants in its sale of debt securities in order to obtain lower interest rate and cost of borrowing than would be possible without the warrants, while a bond buyer is interested in the profit s/he could earn by converting the warrants to stock if the issuer’s stock price rises.

An investor who owns bonds with attached warrants can sell those warrants separately while retaining the actual bonds. Likewise, the investor could sell the bonds and keep the warrants. Both securities are, therefore, treated as separate securities even though they are issued in one package. In this regard, detachable warrants are unlike call options which are not detachable. A holder of a detachable warrant may eventually exercise it and purchase the entity’s stock or allow it to expire. For example, an investor holds a $1,000 par value bond with a detachable warrant to buy 30 shares in the issuing company at $25 per share within the next 5 years. If the investor does not think the price of the common shares will get to $25 within 5 years, s/he has the option of selling the warrant in the open market, while still holding on to the bond. The investor could also do nothing and let the warrants expire after the 5-year period passes. Furthermore, the investor could sell his or her bond and keep the warrant until it is exercised or it expires.

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