Equity Warrant: Dilution Effect and Implications for Pricing
8 Pages Posted: 17 Dec 2008 Last revised: 8 Jan 2009
Date Written: November 25, 2008
At a first approximation, equity warrants are option-like securities: in fact, they are transferable certificates which entitle the holder to buy a specific number of shares of the issuing company, at a given price, at an agreed time in the future. Accordingly, the pricing of warrants is usually performed by application of the standard option pricing theory. However, the presence of some specific features (e.g., the equity dilution) prevents from using simple plain-vanilla formulas and adds a certain degree of complication to the analysis. The purpose of this study is to present the different (and sometimes controversial) warrant pricing approaches provided by the financial literature and describe the assumptions they are based upon. By means of these formulas we price a current Italian warrant listed at Borsa Italiana and we show the mispricing we obtain with respect to the actual market price. This article is intended to address the common pricing errors made by academics and practitioners, shedding some light on the warrants' valuation process.
Note: Downloadable document in Italian.
Keywords: Warrant pricing, dilution effect
JEL Classification: G10, G13, G14
Suggested Citation: Suggested Citation