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Arresting warrants

One year on from the launch of covered warrants in the UK, the market has made considerable progress. However, warrants have come under sustained criticism from a small number of commentators for a slow take-off. Much of this criticism has focused on comparisons of the size of the UK market with those in Europe and beyond.

The product was launched into what proved to be very difficult market conditions, particularly for retail products. In addition, in the UK there were already several established potential competitor products in the form of spread betting, contracts for difference and traded options.

The market participants are not surprised or disappointed with the growth to date. The London Stock Exchange anticipated slow growth as retail investors and brokers got to grips with what is a technical product aimed at only the most sophisticated investors.

Issuers have truly embraced the market and view the achievements of the first year as remarkable – remarkable in terms of the range of instruments available and remark-able in terms of the month on month accelerating growth of the market.

Significantly, those brokers who led the way in marketing this new product are pleased with its initial progress. At a time when retail share dealing has dramatically reduced, some brokers have been glad of the volumes and clients that have been attracted to this new product. Comdirect for example, recently announced that covered warrants were now its second most traded product. Etrade, in a recent trial, saw a very high level of trading, with some clients dealing more than 50 times a day.

Covered warrants are an attractive new tool for IFAs and can be used in a number of ways. With the range of underlyings now available, they can gain exposure to assets that would otherwise be very difficult and inflexible.

Warrants can also be used for hedging. They allow portfolio protection easily and cheaply, as exact hedges are possible. For instance, in May 2003 eight property-linked warrants and certificates were issued by Goldman Sachs. The products are all linked to the Halifax house price index and the put warrants enable property owners to hedge the value of their property against any fall in house prices.

A further use for covered warrants is cash extraction. They can be used to free capital while maintaining exposure to the market, meaning that cash can be used elsewhere or put in a high-interest account. Downside is limited to the small proportion invested in warrants.

The UK has seen an average growth in trades of 15 per cent month on month between November 2002 and October 2003 and now has over 3,700 trades per month with a volume of nearly 360 million shares.

For a true comparison with other markets around the world, we should be comparing their first year of trading rather than trying to make comparisons with markets that have been established for over a decade.

On this measure, the London market has been the most successful of any covered warrant market anywhere in the world. It took most of the international markets several years to reach the trading levels that London is witnessing.

We expect the market to continue its growth, which will accelerate rapidly once the stockmarket environment turns in our favour. Covered warrants give investors the opportunity to short an underlying asset, we know that people prefer to buy into a rising market than sell into a falling market. The same is true in spread betting and, since launch, call warrants have been more popular than put warrants by on average of 4:1 every month.

Similarly, the range of warrants will continue to grow, giving options to investors that have not been there. Warrants are already available on UK equities and indices, property, currency and commodities, including oil, gold and silver. This is set to grow.

The participants in the market are growing all the time. Several new brokers have begun offering covered warrants to clients and we are aware of many more that are looking to get into this market. They recognise the need to offer this innovative product while acknowledging their ability to create a new profitable product line.


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