A “Special Purpose Acquisition Company” or SPAC is a company that has been created for the sole purpose of merger or acquisition opportunities. SPACs usually sell warrants as part of their Initial Public Offering (IPO). These warrants can be used to purchase shares in the company if the share price is above a certain level after a specific period.
While SPAC warrants share similarities with options contracts, there are some key differences to be aware of. This guide will explain how to buy and sell SPAC warrants, as well as examining why SPACs have warrants, and why they trade at a discount. Read on for details on when SPAC warrants can be exercised, what their expiry date is, and how they can be valued.
This tutorial will also provide answers to common questions such as: Can you short SPAC warrants? Do they dilute existing shareholders? Where can you redeem SPAC warrants? Can they go to zero in value? Read on for detailed answers to all of these questions and more.
What Is A SPAC Warrant?
A SPAC is a “Special Purpose Acquisition Company.” SPACs do not have any business or commercial operations. They are simply set up to raise capital through an IPO. This capital is then typically used for a merger with an existing company.
For some companies, particularly those with insufficient capital, becoming publicly listed through an IPO is a complex process. Merging with a publicly-listed SPAC provides a way around some of these difficulties. If a SPAC does not complete the acquisition within two years, it must return the funds to its investors.
Those investing in a SPAC will usually purchase “units” made up of shares and warrants, or even fractional warrants such as a quarter of a whole warrant (per unit). Therefore, the difference between warrants and units is that both warrants and common stock are usually included within the package of a single unit.
Traders should check the relevant tax treatment to trade or exercise SPAC warrants within their own jurisdiction, including the cost basis of the warrants. Private placement SPAC warrants are also issued, often at a discount and sometimes with cashless exercise. However, these private warrants are more relevant to SPAC sponsors rather than standard retail traders.
For institutional traders, Private Investment in Public Equity (PIPE) is often used to finance SPACs. Once a merger is complete, the “De-SPAC-ing” and separation of the unit into shares and warrants takes place.
Examples Of SPAC Companies
Examples of SPAC companies that have issued warrants include:
- Ajax I
- ACQ Bure AB
- Lakestar SPAC
- Longview Acquisition II
- Thoma Bravo Advantage
- Empower Ltd (EMPW.U)
- KKR Acquisition Holdings
- Altimeter Growth Corp. (AGC)
- dMY Technology Group Inc. VI
- Churchill Capital Corp. IV (CCIV)
- Fusion Acquisition Corp. (FUSE)
- Reinvent Technology Partners (RTP)
- New Providence Acquisition Corp. (NPA)
- Natural Order Acquisition Corp. (NOAC)
- Cohn Robbins Holdings Corp. (CRHC.U)
- Digital World Acquisition Corp. (DWAC)
- Northern Genesis Acquisition Corp. (NGA)
- Pershing Square Tontine Holdings (PSTH)
- Foley Trasimene Acquisition Corp. II (BFT.U)
- Mudrick Capital Acquisition Corporation (MUDS)
- Vertex Technology Acquisition Corporation (VTAC)
How Do SPAC Warrants Work?
SPAC warrants function similarly to how warrants function in general. They are a contract that promises the buyer that they will receive a certain number of shares (in the SPAC’s own stock) if the share price rises above a given level within a particular period. Much like options trading, the buyer has a right, but not an obligation, to take up this offer. For this right, the buyer will have paid a certain amount for a “unit” as part of the SPAC’s IPO.
The difference between a warrant and a standard option is that warrants are typically issued by the companies themselves, rather than by an exchange. This means warrants are less standardized than options, so you should always check the terms and rules of each one before you invest.
For example, check how many shares you are entitled to for each warrant exercised. Some warrants will be exchangeable 1:1 with shares, but this is not always the case. Next, check whether the warrant is detachable i.e. whether the warrants can be sold without also selling the shares. Furthermore, you should establish whether there are any forced redemption features. SPAC warrants can often be traded through a broker and sold before their expiry date/maturity.
A commonly-asked question is “why do SPACs issue warrants?” Primarily, it’s because SPAC warrants offer an additional incentive for retail and institutional traders to invest in the company, as they have the potential to make profit if the share price of the SPAC increases following the merger. Many traders based in the UK, US or Australia often follow finance and investment news stories closely in order to identify the newest and best SPACs and SPAC warrants to buy.
Note, that units are generally not issued without a warrant or a fraction of a warrant.
SPAC Warrants Example
The purchase price of a SPAC unit is initially $10. The warrant issued as part of that unit has an exercise or “strike” price of $11.50 per share. Once the merger has taken place, the price of the warrant rises to $14.50. With the warrant being in-the-money and a 1:1 ratio of warrants to shares exercised, this results in a profit of $3 per warrant on the exercise date.
This potential to profit is what incentivises many traders to invest in SPAC warrants. This is an example of a public warrant: founder warrants are settled slightly differently, but they are less relevant to retail traders. Do note that in theory, there is no limit to how high SPAC warrants can go, but their value can also go close to zero if the SPAC liquidates.
Key Characteristics of SPAC Warrants
- Warrant holders usually do not have any voting or dividend rights.
- The underlying stock price and warrant price will tend to move in tandem, so markets with high volatility will often have warrants that are also highly volatile.
- If the merger is unsuccessful, the value of the warrant will usually end up being close to zero. Some have quoted a figure of 20% of SPACs failing to find a target.
- SPAC companies have to issue new shares when warrants are exercised, which means that the shares are dilutive.
- Although SPAC warrants theoretically have an expiration date up to five years after the acquisition/post-merger, most will have early redemption clauses e.g. a clause stating that the warrant must be redeemed within thirty days if the stock price remains above a certain level for a set period of time.
Warrants became popular during the 1990s in countries such as Germany, France and Italy. SPACs came into existence at a similar time. Since then, their popularity has grown to the extent that SPAC IPOs raised a whopping $162.5 billion in 2021. However, this growth also means that SPACs have begun to draw greater regulatory scrutiny from bodies such as the Securities and Exchange Commission (SEC).
In March 2022, the SEC proposed rules to improve disclosures in relation to SPACs. It’s important to be conscious of the risk of a ruling that negatively impacts the SPAC market, which would consequently lead to fewer firms following this IPO route.
Benefits Of SPAC Warrants
- The warrant market is generally very liquid.
- Unlimited profit potential if the performance is strong.
- Can assist with diversification as warrants can be cheaper than buying the underlying asset outright.
- A warrant can generate more profit in a given period than simply buying the underlying asset due to the gearing element.
Drawbacks Of SPAC Warrants
- May not be suitable for beginners.
- Limited standardization across SPAC warrants means that investors have to pay close attention to the terms of the contract.
- The gearing element can also work the other way with losses exaggerated compared to investing in the underlying asset.
- SPAC warrants sometimes trade at a discount relative to their equivalent common stock because the merger could fail, which usually renders the warrant completely worthless.
Comparison With Other Types Of Warrants And Stocks
The alternative to a SPAC warrant would be to purchase a standard call or put warrant with a stock, commodity, index or currency pair as the underlying asset. Arguably these standard warrants could be considered less risky than a SPAC warrant because their success is not dependent on a merger being formed. However, other investors would argue that SPAC warrants represent better value for money. In one “unit” issued by the SPAC, a warrant (or fraction of a warrant) is given in addition to a share of the company. This could also be considered “two for the price of one.”
Many SPAC warrants and units will come with early redemption clauses, whereas most standard warrants are open-ended. These early redemption clauses can limit the profit potential of SPAC warrants and restrict the growth of their valuation.
When it comes to SPAC warrants vs common stocks/shares, which is better? Trading SPAC warrants is often more accessible to investors with less capital. Many traders even ask why SPAC warrants are so cheap relative to their potential returns. SPAC units also come with both warrants and common stock combined in a single unit. However, SPAC warrants could also be considered riskier than trading common stocks and shares.
If you are investing in a SPAC through an IPO, there is no complex strategy involved apart from undertaking due diligence and ensuring that the SPAC is being run by trusted and experienced professionals. The value of your SPAC investment will largely be determined by whether a merger is possible or not.
If a merger doesn’t occur, investors will not get a return on their money. Often SPACs will not identify a specific company they are looking to merge with in advance, which makes the trust element even more important.
Those trading SPAC warrants on the open market can adopt a trading strategy. This may involve a focus on fundamental analysis, and examining the underlying strength and intrinsic value of the SPAC and the company it has merged with. It could also involve looking at earnings reports, company accounts or a statement the CEO has made to understand how much the company is really worth.
Those who choose to day trade SPAC warrants may want to use a technical analysis trading strategy to execute profitable trades. This could involve identifying a price range that the warrant/stock is fluctuating within, and buying SPAC warrants once it breaks its resistance level at the top of this range. It could also mean using a 200-day moving average to identify the trend, and either buying a SPAC warrant if this trend line begins to slope upwards or selling it if it begins to slope downwards.
How To Get Started
1. Find A Broker
Where can you buy SPAC warrants? Many online trading brokers such as Trading 212 do not offer SPAC warrants. However, brokers such as Webull, Robinhood, Fidelity and Interactive Brokers do offer these warrants on their platforms.
Research the other features that these brokers offer such as trading platform indicators and charts, demo accounts and education sections. Also, check the commissions or spread fees that they charge, as well as any deposit or withdrawal fees, overnight fees and currency conversion charges.
2. Identify An Appropriate SPAC Warrant
Most retail investors acquiring SPAC warrants do so on the open market rather than through an IPO. Check the broker’s platform and any relevant external sites to identify potential opportunities. Ensure that the SPAC is run by trusted professionals. Be wary of the cheapest SPAC warrants: it is important to get a good price, but they also need to be a safe warrant. However, you may find some genuinely undervalued SPAC warrants on websites that have lists of the lowest-priced warrants e.g. those trading under $1.
To understand the theoretical valuation of a warrant, you can use an online price calculator in which various variables are inputted such as implied volatility and the pricing model. This can help identify its fair value. Delta can be used to analyze the connection between the warrant price and the underlying market.
Always read all the terms of SPAC warrants before you buy them, including any clauses regarding early redemption of the warrant.
3. Monitor The Market
Once you have purchased a SPAC warrant, you will need to monitor the market closely to decide when to either sell or redeem the warrant. Look at the fundamentals of the company to see whether there is real growth potential after any merger. A successful SPAC warrant investment will consist of a company evolving into a profit-making machine following the merger, and the company’s share price rising rapidly thereafter.
Check out discussions on sites such as Reddit and Twitter to learn what traders consider to be the best SPAC warrants. Yahoo Finance, ZoomInfo and even YouTube may also hold relevant information and tips for new investors.
Where Can I Learn More About SPACs And SPAC Warrants?
Brokers and investment companies such as Degiro, Schwab and TD Ameritrade have information about SPAC warrants on their websites. Finance, accounting and investment-related sites and companies such as SoFi, BDO, KPMG, EY, Deloitte and PwC also offer educational content in which SPAC warrants are explained.
Similar types of websites may be able to provide a list of all new SPAC warrants and their prices. Ultimately, the question of whether you should buy any SPAC warrant will depend on your risk management tolerance and your understanding of how SPACs work.
Final Word On Trading SPAC Warrants
This overview should help you to improve your understanding of SPAC warrants increased relevance in today’s world of investing. Whether you choose to trade on Robinhood, Fidelity, E*TRADE or Vanguard, SPAC warrants give traders a good opportunity to make sizable profits. However, ensure that you do your research and only use a trusted SPAC issuer when you are purchasing this style of warrant.
What Is A SPAC Detachment?
A SPAC detachment means a separation or split of a SPAC unit into the shares and warrants that it is made up of. The shares and warrants can then be individually traded. This typically occurs on the 45th calendar day after a firm’s listing date.
Are SPAC Warrants Tradeable?
Yes, SPAC warrants can usually be bought and sold on the open market. Normally, SPAC detachment has to occur first before they become tradeable. You can also short SPAC warrants, although this will only be possible via certain trading platforms.
How To Convert SPAC Warrants Into Shares?
To execute your warrants and convert them into shares, you will usually need to contact your broker. Unless it is a cashless redemption, the exercise price will then have to be paid in return for the shares.
When Do SPAC Warrants Become Exercisable?
SPAC warrants are usually exercisable either thirty days following the De-SPAC or twelve months after the IPO.
What Happens To SPAC Warrants After A Merger?
In theory, SPAC warrants can continue to be traded for up to five years after a merger. However, in practice most SPAC warrants have early redemption clauses which stipulate that they must be redeemed within a shorter period if certain conditions are met. For example, in the past this has meant the stock trading above $18 for 20 out of 30 trading days.
What Happens To SPAC Warrants If There Is No Merger?
If there is no merger, the SPAC is usually liquidated. This means the investors in the SPAC are returned their money and the SPAC warrants become almost worthless.
What Is The Difference Between SPAC Warrants Vs Shares?
SPAC shares give the holder actual ownership of part of the SPAC, or the company that it merges with. Meanwhile, SPAC warrants represent an agreement to give the owner of the warrant shares in the SPAC, but only if the price of a share exceeds the exercise price within a certain period.