SPAC WARRANT BASICS for Beginners | Stock Warrants Explained - YouTube

spac stock warrant basics for beginners  

that's what we're going to be  talking about in today's video

i am not a financial advisor this video  is for entertainment purposes only  

learn to invest like a wolf at your own risk  what's up everyone welcome back to my channel  

wolves of investing my name is donnie nguyen and i'm  the founder of wolves of investing if you're new  

my channel is primarily about investing in the  stock market if you want to learn how to achieve  

financial freedom through investing be sure to  click on that subscribe button and notification  

bell if you haven't yet i've been getting a lot  of great questions from my viewers about spac  

stock warrants so these are the topics we're  going to be covering in today's video and i'll  

leave time links to each of these topics in the  video description so you can easily jump around  

to each topic that you're interested in so without  further ado let's get right into it stock warrants  

are nothing new they've been around for a hundred  years benjamin graham mentioned stock warrants in  

his classic book the intelligent investor this  version of the book was written in the 1970s  

wealthy investors like warren buffett often use  stock warrants in their multi-million dollar  

deals but retail investors are getting a lot of  exposure to stock warrants because of spacs or  

special purpose acquisition companies these spacs  often include stock warrants to entice investors  

what is a stock warrant a stock warrant gives the  warrant holder the right to buy a particular stock  

at a particular price called an exercise price  after the warrant becomes exercisable and until  

the warrant expires and don't worry if you don't  understand this yet because we're going to go into  

plenty of examples in this video and if you want  to know any details about a particular spac stock  

warrants read the s1 filing which is listed for  free on the sec's website how to trade a warrant  

knowing how to trade a warrant is more important  to me than knowing how to exercise a warrant which  

we'll go into later in this video stock warrants  trade just like a stock on many brokerages at  

the time i'm making this video you cannot buy  stock warrants on robinhood so if you're gonna  

trade stock warrants be sure to check with your  broker i use td ameritrade and i also use fidelity  

warrant ticker symbols may differ by brokerage  for example on td ameritrade hyliion is listed as  

hyln+ and hylnws on fidelity and  i always use limit orders on stock warrants  

to prevent price slippage so in this screenshot  here's an example of how you would trade a stock  

warrant on td ameritrade using a limit order and  here's how you would do it on fidelity so let's  

talk about the market price of a warrant let's say  for example that a stock warrant has an exercise  

price of 11.50 which is very common for spacs  let's say that the stock price went up to 21.50  

that would give an intrinsic value  of ten dollars for that stock warrant  

twenty one dollars and fifty cents minus eleven  dollars and fifty cents but the actual market  

price that you can trade that warrant for  is likely to be higher or lower than 10 dollars

there's a pricing model for stock  warrants called the black scholes method  

i've never used black scholes and i never plan on  using it but there are three things you should  

know that affects a stock warrant's price first  the expiration the farther out the expiration

the more valuable the stock warrant so a warrant  that's expiring in five years should theoretically  

be worth more than a warrant that's expiring  in 30 days second is the warrant exercisable  

if the warrant is not yet exercisable  theoretically it should be worth less than a  

warrant that is already exercisable and third how  popular is the underlying stock the more popular  

the underlying stock the more valuable the stock  warrant so here's an example of shll hyliion  

the exercise price is 11.50 at the time i  took this screenshot the stock price was 44.91  

the intrinsic value was 33.41 but you can  see that the market price was only 22.80  

why is that the reason the market value is lower  than the intrinsic value is because the warrant  

is not yet exercisable tortoise shell and hyliion  just completed their initial business combination  

this past week so the stock warrants won't  become exercisable for about 30 days and that's  

listed in the s1 filing let's take a look at this  other example whole earth brands stock warrants  

the exercise price again is 11.50 the stock  price was eight dollars and forty two cents  

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so the intrinsic value is negative three  dollars and eight cents but the market price  

is ninety seven cents per warrant the reason the  market value is higher than the intrinsic value  

is because this warrant is already exercisable and  it doesn't expire for a few years and let's say  

you wanted to buy a hundred shares of this stock  you'd be paying 842 dollars but if you bought  

100 warrants you'd only be paying 97 dollars let's say a  few years from now the stock price doubles if you  

bought the stock you'd be up 100 percent but if you bought  the warrant you could potentially be up around 450 percent

assuming the market value of the warrant is  somewhere around the intrinsic value so when  

does a spac warrant become exercisable  now you should always read the s1 filing  

but this is very typical of spacs the later  of 12 months after the spac ipo and at  

least 30 days after the initial business  combination so before a merger is completed  

you can't exercise a warrant you can only trade it  that's why it's so important for beginners to know  

how to trade a stock warrant all right so  now that we know how to trade a warrant  

how do you exercise a warrant exercising a  warrant may be different depending on which  

brokerage you use it's typically a manual  process you may have to call your broker  

you may have to fill out a form and submit it  and your broker may charge you a commission  

could be twenty dollars could be thirty dollars or  more so be sure to check with your broker ahead of  

time and the process typically takes about three  to five days to exercise the warrant because of  

this manual process you can see why i prefer to  sell the warrant rather than exercising it if at  

all possible and if it makes sense from a price  perspective so let's take a look at this example  

of whether or not you should exercise a  warrant so the exercise price again is 11.50  

the stock price is twenty one dollars and fifty  cents the intrinsic value ten dollars and let's  

say the market price is selling at a premium  for twelve dollars why in the world would  

you wanna exercise this warrant when you can  just sell it at a premium for twelve dollars  

it doesn't make sense you can just sell this  warrant at a premium for twelve dollars and  

if you still wanna buy the stock use the proceeds  from that sale and buy the stock all right second  

example let's say the market price of the warrant  is the same price as the intrinsic value again  

why in the world would you want to exercise the  warrant with a few clicks of a button you can sell  

that warrant for ten dollars versus calling your  broker or filling out a form and waiting three to  

five days for your broker to exercise the warrant  for you a lot of things could happen in that three  

to five days the stock price could tumble over  that three to five days if you still want to buy  

that stock you can just sell the warrant with  a few clicks and then just use those proceeds  

to buy the stock with a few more clicks let's take  a look at one more example let's say the market  

value of the warrant is less than the intrinsic  value so now should you exercise that warrant?  

maybe. it depends because if you exercise the  warrant and it takes three to five days for you to  

get delivery of that stock if the stock price is  volatile the stock price could drop in that three  

to five days so if you want to hold that stock  long term and you don't care if the stock price  

drops in that three to five days that it takes to  exercise so yeah it makes sense to go ahead and  

exercise that warrant but if your main goal is to  cash out of the warrant if you don't want to risk  

the stock price falling over that three to five  days that it takes your warrant to exercise you  

might just want to sell that warrant even though  it's selling for a discount to the intrinsic value  

so it's all up to you to determine how comfortable  you are with that risk now let's talk about spac  

warrant expiration what's typical is if a spac  terminates before finding an initial business  

combination then the warrant will expire worthless  it goes to zero another typical expiration date is  

five years after the initial business combination  but don't be fooled often times the warrant will  

expire earlier than this five-year clause just  about all these spacs have this early redemption  

clause if the stock is trading at 18 for 20 out  of 30 trading days and the warrant is exercisable  

management can issue a 30-day written notice and  redeem those warrants early and oftentimes there's  

a similar clause if the stock is trading at or  above 10 dollars. so for the 18 dollar early redemption clause  

if the stock is exercisable, the stock is trading  at or above 18 dollars for 20 out of 30 trading days,  

management issues a 30-day written notice, and  after that 30 days the warrants expire worthless  

so the warrant holders choices are to  either sell the warrant exercise the warrant  

or let the warrants expire worthless hopefully  they don't let the warrants expire worthless  

and here's an example from nikola's website when  they issued their early redemption. for the 10 dollar

early redemption clause there's usually  a table in the s1 filing that will give  

the investor an idea of what they'll get paid if  management invokes this clause on top of all this  

management can propose a change to the terms of  the warrant. i've only seen this in conjunction  

with the initial business combination so my  point of all this is that the warrant holder  

needs to stay alert and can't just set it and  forget about it and sometimes when they issue an  

early redemption management does what's called  a cashless exercise so in a cashless exercise  

the warrant investor doesn't have to pay  11.50 cash to exercise the warrant instead  

management lets them turn in their warrant and get  less than one share of common stock per warrant  

for the investor it doesn't really matter whether  they do a cashless exercise or they pay the 11.50  

the amount the investor gets is equivalent and  it's based on a standard formula but from  

the company's perspective if the company needs  cash they're not going to do a cashless exercise  

they'd rather you give them 11.50 and they'll  distribute one share of stock to you but if they  

don't need a lot of cash and they don't want to  dilute their shares it's better for them to do a  

cashless exercise so they don't have to create new  shares to give to the warrant holders and here's  

an example on virgin galactic's website when they  did an early redemption using a cashless exercise  

all right let's talk about unit separation spacs usually ipo as a spac unit a spac unit includes  

a common stock and some ratio of a warrant  usually one half or less of a warrant  

and typically 52 days after this spac ipo the spac  common stock and the spac warrants begin to trade  

separately and you should be aware of the unit  to warrant ratio which is listed in the s1 filing  

often times a spac unit will include a warrant  ratio of one half or one fourth or one third  

and so on and so forth for example if the unit to  warrant ratio is one fourth you need to have four units  

to get one warrant so if you decide to buy  these units and separate them out you're gonna  

have to buy these units in multiples of four in  order to get one warrant for every four units  

and sometimes the units will have an  automatic separation and sometimes  

it'll be a manual separation and your brokerage  may charge you what's called a reorganization fee  

in order to separate out the units whether it's  automatic or manual if you do get charged this fee  

you can try to give your brokerage a call and ask  them to reimburse it for you sometimes they'll do  

it and here's an example from the s1 filing  of shell hyliion what is the warrant ratio  

most spacs but not all have a warrant ratio  of one to one that means that you can exercise  

one warrant for one common stock but sometimes  the warrant ratio is different for example one to  

one half or one to one fourth for example if the  warrant ratio were one to one half that means you  

can exercise one warrant for one half of a common  stock so you'd have to exercise two warrants  

for one common stock it's not something i see  very often but something to just be aware of so  

what are the risks of stock warrants we already  talked about some of these risks in this video  

but just want to reiterate them here first off  warrants can expire worthless and the second risk  

is that warrants just like common stock can lose  their value but typically they're more volatile  

than common stock so it's not uncommon for a  warrant to lose 20 percent of its value in a day  

given the risk why would someone want to invest  in the spac warrant over the common stock let me  

demonstrate with an example let's say the investor  bought the stock at ten dollars the stock goes to  

twenty dollars the investor made a hundred percent  return on their investment but let's say instead  

of the common stock they bought the warrant for  a dollar the common still goes to twenty dollars  

the intrinsic value of the warrant is twenty  dollars minus eleven dollars and fifty cents  

so that would be eight dollars and fifty cents we  know that the market price might be more or less  

than eight dollars and fifty cents well let's say  in this example it's eight dollars and fifty cents  

so the return on investment in this example  for the warrant was seven hundred and fifty  

percent so that's the main reason why i  often prefer to invest in the spac warrant  

rather than the common stock alright so  if you have any questions about this video  

feel free to drop them in the comment box be  sure to leave a like on this video before leaving  

thank you so much for watching  and i'll see you next time you