Warrants oil wheels of investment trusts: The right to buy future shares at a fixed price is a growing perk

TRADING began last week in the shares of two new investment trusts: Kleinwort Benson's heavily oversubscribed European Privatisation trust, and the Taiwan trust from Jupiter Tyndall, which is more specialised.

Private investors who subscribe for shares in new investment trusts like these will find that as part of the deal, they are likely to get a bundle of warrants. Rather like the freebie alarm clock or pocket calculator thrown in by an encyclopaedia salesman, warrants may seem a nice enough bonus but not necessarily what you would choose to go out and buy. What do you do with them?

Investment trusts are an essentially simple idea that the industry has turned into a sophisticated financial device - or, put another way, has made hideously complicated. Investment trusts are companies set up with the objective of putting their own funds into other shares or other investments. As with other types of collective investment, the investment trust shareholder hopes to gain both from a wider spread of investments and from fund management.

Investment trust shares are bought and sold on the stock market, and while the market price reflects broadly the overall assets held, investment trust shares have traditionally traded at a discount - that is, at less than the book value of the assets divided by the number of shares. This poses a potential problem when new investment trusts are launched, particularly since start-up costs are typically about 4 per cent of the capital subscribed. This might suggest that anyone buying shares in a new issue would immediately see their investment value fall by 4 per cent, even before the discount is taken into account.

The warrant is a convenient device that provides subscribers with an additional perk, the opportunity to benefit in the future when, all being well, the investment trust has become well-established. It gives holders the right - although not an obligation - to buy investment trust shares at a future date or dates and at a fixed price.

Investment trust warrants have become increasingly popular since the early Eighties. 'There's no doubt that the warrant has proved a successful financial engineering tool,' says Hamish Buchan, director of NatWest Securities. 'It's the Vaseline which oils the wheels.'

Warrants are bought and sold in the market, though the volume of trading can be small and bid/offer spreads may correspondingly be wide. The market price of warrants also tends to fluctuate, sometimes wildly. This is what the Association of Investment Trust Companies describes as the 'element of excitement warrants can offer'.

Essentially, whether they know it or not, holders of warrants are playing the traded options game. With options the purchaser buys the right to buy or sell a particular share at a particular price before a set date. Warrants also offer investors the chance to benefit from share price movements without having to pay the full cost of the shares themselves - the possibility of large gains for a small stake. But the right to buy shares is only exercisable at a set date or dates.

Investors with warrants who do not want to actively play the market have the choice of selling them or hanging on until the time comes to use them to buy shares - what is called 'exercising' the warrant. Obviously, this is only worthwhile if the share price at the time is above the offer level (when the warrant is said to be 'in the money'). Shares bought when exercising a warrant must be paid for in full but stamp duty and brokers' commissions are avoided.

The extra paperwork of keeping warrants means that some people choose to sell them immediately a new issue comes to market. 'A lot of people just sit on them though,' says John Korwin-Szymanowski of SG Warburg Securities. As he notes, it is important not to forget entirely about them: while some investment trust companies have powers to ensure that investors who forget to exercise their warrants can still benefit, others do not.

Colin McLean, managing director of Scottish Value Management, identifies a seemingly unlikely role for warrants. 'Some people will put warrants in children's portfolios,' he says. 'It's often thought that investments for children should be low-risk, but if people are not too concerned about the volatility, warrants have the advantage that they do not pay out interest.' Inland Revenue rules say that if interest on children's investments given them by parents is more than pounds 100 a year, it must be taxed with the parents' income.

(Photograph omitted)

Start your day with The Independent, sign up for daily news emails
News
Kim Wilde began gardening in the 1990s when she moved to the countryside
peopleThe singer is leading an appeal for the charity Thrive, which uses the therapy of horticulture
Sport
Alexis Sanchez celebrates scoring a second for Arsenal against Reading
football
Life and Style
health
Voices
An easy-peel potato; Dave Hax has come up with an ingenious method in food preparation
voicesDave Hax's domestic tips are reminiscent of George Orwell's tea routine. The world might need revolution, but we like to sweat the small stuff, says DJ Taylor
News
i100
News
Japan's population is projected to fall dramatically in the next 50 years (Wikimedia)
news
ebooks
ebooksA special investigation by Andy McSmith
  • Get to the point
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating
and  

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs Money & Business

SThree: Trainee Recruitment Consultant

£20000 - £25000 per annum + OTE £45,000: SThree: SThree Group have been well e...

Ashdown Group: IT Manager / Development Manager - NW London - £58k + 15% bonus

£50000 - £667000 per annum + excellent benefits : Ashdown Group: IT Manager / ...

Recruitment Genius: Sales Consultant / Telemarketer - OTE £20,000

£13000 - £20000 per annum: Recruitment Genius: Scotland's leading life insuran...

Ashdown Group: Training Programme Manager - City, London

£40000 - £45000 per annum + benefits : Ashdown Group: Training Programme Manag...

Day In a Page

NHS struggling to monitor the safety and efficacy of its services outsourced to private providers

Who's monitoring the outsourced NHS services?

A report finds that private firms are not being properly assessed for their quality of care
Zac Goldsmith: 'I'll trigger a by-election over Heathrow'

Zac Goldsmith: 'I'll trigger a by-election over Heathrow'

The Tory MP said he did not want to stand again unless his party's manifesto ruled out a third runway. But he's doing so. Watch this space
How do Greek voters feel about Syriza's backtracking on its anti-austerity pledge?

How do Greeks feel about Syriza?

Five voters from different backgrounds tell us what they expect from Syriza's charismatic leader Alexis Tsipras
From Iraq to Libya and Syria: The wars that come back to haunt us

The wars that come back to haunt us

David Cameron should not escape blame for his role in conflicts that are still raging, argues Patrick Cockburn
Sam Baker and Lauren Laverne: Too busy to surf? Head to The Pool

Too busy to surf? Head to The Pool

A new website is trying to declutter the internet to help busy women. Holly Williams meets the founders
Heston Blumenthal to cook up a spice odyssey for British astronaut manning the International Space Station

UK's Major Tum to blast off on a spice odyssey

Nothing but the best for British astronaut as chef Heston Blumenthal cooks up his rations
John Harrison's 'longitude' clock sets new record - 300 years on

‘Longitude’ clock sets new record - 300 years on

Greenwich horologists celebrate as it keeps to within a second of real time over a 100-day test
Fears in the US of being outgunned in the vital propaganda wars by Russia, China - and even Isis - have prompted a rethink on overseas broadcasters

Let the propaganda wars begin - again

'Accurate, objective, comprehensive': that was Voice of America's creed, but now its masters want it to promote US policy, reports Rupert Cornwell
Why Japan's incredible long-distance runners will never win the London Marathon

Japan's incredible long-distance runners

Every year, Japanese long-distance runners post some of the world's fastest times – yet, come next weekend, not a single elite competitor from the country will be at the London Marathon
Why does Tom Drury remain the greatest writer you've never heard of?

Tom Drury: The quiet American

His debut was considered one of the finest novels of the past 50 years, and he is every bit the equal of his contemporaries, Jonathan Franzen, Dave Eggers and David Foster Wallace
You should judge a person by how they peel a potato

You should judge a person by how they peel a potato

Dave Hax's domestic tips are reminiscent of George Orwell's tea routine. The world might need revolution, but we like to sweat the small stuff, says DJ Taylor
Beige is back: The drab car colours of the 1970s are proving popular again

Beige to the future

Flares and flounce are back on catwalks but a revival in ’70s car paintjobs was a stack-heeled step too far – until now
Bill Granger recipes: Our chef's dishes highlight the delicate essence of fresh cheeses

Bill Granger cooks with fresh cheeses

More delicate on the palate, milder, fresh cheeses can also be kinder to the waistline
Aston Villa vs Liverpool: 'This FA Cup run has been wonderful,' says veteran Shay Given

Shay Given: 'This FA Cup run has been wonderful'

The Villa keeper has been overlooked for a long time and has unhappy memories of the national stadium – but he is savouring his chance to play at Wembley
Timeless drama of Championship race in league of its own - Michael Calvin

Michael Calvin's Last Word

Timeless drama of Championship race in league of its own