Dr Wise Explains How Dividend Payments Affect Warrant Prices

The SFC today publishes the May issue of Dr Wise’s Column, How Do Dividend Payments Affect Warrant Prices?, on its InvestEd website at www.InvestEd.hk.

In this issue, Dr Wise explains how dividends expected to be paid by the underlying stock affect the price of a derivative warrant. In particular, he points out that it is possible for a call warrant to trade below its “intrinsic value” with a negative premium when the warrant is about to expire, while its underlying stock is due to declare a dividend and will likely go ex-dividend before the warrant’s expiry date. This is because the ex-dividend price of the underlying stock will be used in determining the payout of the call warrant on its expiry date, resulting in a lower payout to call warrant holders than it otherwise should. Such a dividend element is deducted when pricing the call warrant.

Assuming other factors remain constant, if the declared dividend is lower than expected, the call warrant’s price will be expected to move up. Whereas, if the declared dividend is larger than expected, the call warrant’s price will be expected to drop further. A list of FAQs is posted at the “Features & Dr Wise \ Alternative Investments \ FAQs: Warrants and Others” section of the InvestEd website to facilitate investor understanding of this topic.

Dr Wise reminds investors that derivative warrants are too complex for everyone. Pricing of warrants depends on a number of factors and the use of complicated mathematical models. Investors should make sure they fully understand all of these factors before they trade warrants.

Dr Wise is a fictitious character. Through his column, he talks to investors about the key issues of investing and regulatory thoughts.

Dr Wise’s Column is published on the last working Tuesday of every month. From time to time, additional articles in the form of special issues may be published on topical matters. The column is posted under the “Features & Dr Wise” section of the InvestEd website. Investors are welcome to send their feedback and questions to Dr Wise by email to InvestEd@sfc.hk.

Ends

Notes:

1. News media are welcome to carry the column with acknowledgement of the source of the information.