Derivative warrants fall under the category of derivative investment instruments or structured products. They have a life of six months to five years. The underlying assets of derivative warrants include ordinary shares, market indices, currencies and baskets of shares.
Derivative warrants are issued by a third party, generally an investment bank, independent of the issuer of the underlying assets. The issuer of derivative warrants may not be the issuer of the underlying assets but should hold or have a right to hold the underlying assets.
Derivative warrants can be linked to a single security or a basket of securities, stock indices, currencies, commodities or futures contracts (like crude oil futures). Almost all derivative warrants currently traded in Hong Kong are cash-settled. Warrants linked to a basket of securities, stock indices or securities listed in other jurisdictions will always be settled by cash.
When a physically settled call derivative warrant on a single stock is exercised, the warrant holder will receive the underlying stock from the issuer. Unlike equity warrants, no new shares will be issued.
The issue and exercise of derivative warrants has no effect on the quantity of the underlying assets (such as ordinary shares). Derivative warrants provide the market with a wider range for instruments for hedging or investment purposes.