Gearing means increasing one's exposure to a certain investment for the same outlay. Warrants are a type of geared investment, and warrants in the technology sector have made staggering gains in the last three months. Over that period, the warrants of e-capital investments, a company which invests in the sector, have risen by 2,400 per cent. And warrants in another technology investment company, eVestment, have climbed 1,600 per cent, according to the specialist investment newsletter Warrants Alert.
Issued by companies, warrants are certificates which entitle the holder to buy a specific number of its shares at a certain price, the exercise price, sometime in the future. Nowadays, warrants often start life as sweeteners issued by investment trusts when they make a new issue of shares.
Once these warrants have become detached from the shares they were issued with, they are traded on the open market, just as shares are. But because they cost only a fraction of the price of the share itself, investors can, for the same outlay, potentially benefit from the growth of a much larger shareholding.
Of course, if the share price fails to reach the exercise price of the warrant, then these securities become worthless, and the investor has lost the entire stake.
Warrants are purchased through a stockbroker or financial adviser. The cost is the same as dealing in shares; when you come to exercise the warrant there is no fee to pay. "They are not investments for widows or orphans, but there's no reason why as long as income is not a major consideration, warrants cannot be used as part of an investment portfolio," says Andy Cochrane, convertibles and fixed interest analyst at stockbrokers Greig Middleton.
One advantage of warrants is that while not all of your money is being used to buy the shares you have gained exposure to, that money can be put to use elsewhere.
If you forget about a warrant you own, and it only comes to light after the expiry date, it is worthless. Make sure both you and your stockbroker know which of you is responsible for monitoring the security.
"You do get people exercising warrants when they are out-of-the-money," says Simon Gaunt of stockbrokers Tether & Greenwood. A warrant is "in- the-money" when the exercise price is lower than the actual share price, and "out-of-the-money" when it is higher. Anyone using an out-of-the-money warrant to buy shares would be buying shares for more than they were worth.
How do you choose a warrant? You need to know what level of gearing it offers at its current price and what premium it is trading at. In the technology sector, Warrants Alert highlights as undervalued the warrants of eVestment Company, Foresight Technology VCT, Herald Investment Trust, NetVest.com and VirtualInternet.net.
But as with shares, forming an opinion about the prospects of a company itself is important too.
Tim Cockerill, an independent financial adviser at Whitechurch Securities in Bristol, recommends Henderson Technology warrants. Although the warrants have already risen 543.2 per cent over the last 12 months, they still have a long life, expiring in September 2005. And the investment trust itself does not look expensive, trading at a premium-to-net asset value of just 2 per cent, says Mr Cockerill.
But, overall, given this year's extraordinary surge in warrants in the technology sector, are they still worth buying? Andrew McHattie, the publisher of Warrants Alert, doubts it, although he says it may still be worth watching out for new ones coming to the market.
For those reluctant to buy individual warrants, there are a few collective investments which hold warrants. These include the Warrants & Value Investment Trust, Hargreaves Lansdown's Warrant Portfolio Trust and the McHattie Warrants Alert Fund which was launched by the newsletter publishers in October and is already up 16.5 per cent.