A currency warrant is a type of financial instrument that gives the investor the right, but not the obligation, to make a foreign exchange trade at a specified strike price within a given time frame. They can also be used by speculators who wish to make a bet on the price movement of a given currency.
This guide will provide investors with a clear definition of currency warrants, as well as key data and examples to flesh out how these financial instruments work.
Currency Warrants Explained
- A currency warrant works in the same way as a currency option but over a longer time frame
- Currency warrants give investors the right, but no obligation, to make a foreign exchange trade at an agreed price
- Companies use these contracts to hedge against fluctuations in a foreign currency in which they have exposure
- Currency warrants can also be used by speculators to place a long-term bet on the price movement of a currency, such as the USD
Currency Warrants & Options
Currency warrants work in a similar way to options, granting the right to make a forex trade at a specified price within a given time frame. As with put and call options, investors are able to adopt short or long positions with forex warrants. As a result, they are usually priced in the same way as currency options.
The main difference between the two is in the contract’s time frame. The lifecycle of an option will usually last no longer than a year, while currency warrants can last for a year or more.
Why Investors Choose Currency Warrants
Currency warrants are usually used by companies or investors who do substantial amounts of business in a foreign market and need to hedge against exchange rate fluctuations over a longer time period.
For example, a U.S. company with production facilities in China would be impacted if the Chinese yuan strengthened against the dollar, causing production outlays to increase. Given the yuan’s value of $0.15 as of June 2022, the firm could hedge against such fluctuations by buying a call warrant with a strike price set at $0.15 per yuan.
If the price of the yuan rises to $0.20 over the length of the contract, the call warrant would offset the company’s losses. Unlike with a standard call option, the currency warrant can have a maturity of several years, covering the company’s position for a longer period before it must renew the contract.
Cross-currency warrants work in the same way as currency warrants, except that both currencies involved in the contract are different to the home currency of the contract buyer. So, if you take the example above, the U.S. company might choose to take out a cross-currency warrant guaranteeing the right to buy yuan at a set price in euros instead of dollars.
One common hedging use of forex warrants sees them attached to international debt issues to protect bondholders from slides in the bond’s currency.
Alternatively, call warrants can be used by speculators who foresee price movements in forex markets and believe they can profit from them. The speculator would buy a put or call warrant to open a short or long position on the currency in question, just as with standard option contracts.
What Are Warrants In Financial Markets?
The meaning of the term warrants in finance usually refers to financial instruments which give the holder the right but not the obligation to buy an underlying security at a specified price during a set time frame – just like options contracts.
The difference between warrants and options is that warrants are usually issued by companies themselves, while options are typically available on a central exchange, such as the Boston Options Exchange or Eurex Exchange.
On this point, forex warrants differ from standard types of warrants as they are actively traded on exchanges.
As always, careful research is the first and most important step for any individual investors considering a trade in warrants or any other financial instruments. Since currency warrants are tied to the relative values of two different currencies, it pays to have a close knowledge of the markets in question, and particularly the price history.
There are many resources available online that investors can use to check the latest relevant information on currency warrants, from general financial publications to specialized sites like DayTrading.com.
After getting comfortable with the fundamentals through a Google search, you can check in with a trusted broker for any more complicated queries you may have regarding currency warrant availability and fees.
Final Word On Currency Warrants
Currency warrants are a longer-term version of currency options, allowing investors to assume a long or short position on a foreign currency in a contract with a maturity of 365 days or more. While commonly used for hedging purposes by companies with foreign currency exposure, they are also traded on exchanges and can also be used to speculate.
Where Are Currency Warrants Traded?
Currency warrants can be traded on exchanges or issued by certain institutions, such as debt issuers.
Is A Currency Warrant The Same As An Option?
Currency warrants work in a similar way to currency options, since they give the contract owner the right but not the obligation to make a currency trade at a specified exchange rate within a set time period. However, currency warrants are active for a much longer period than options.
Who Uses Currency Warrants?
Currency warrants are often used by companies which need to hedge against possible fluctuations in the exchange rate of a foreign market they have an interest in. However, since FX warrants are available on exchanges, they can also be used by investors who want to speculate with a long-term bet on currency movements.
How Are Currency Warrants Priced?
Because currency warrants work in a similar way to currency options, they can also be priced in the same way. The time to expire, strike rate and volatility of the currencies in question will be taken into account when the price is determined.
How Do I Trade With Currency Warrants?
Currency warrants are available on exchanges, meaning that unlike over-the-counter contracts, they are available to individual investors and not limited to larger entities. Research exchanges or speak to a broker for more information on trading with this type of warrant.