Hong Kong Warrants Investment: A Complete Guide to Call Warrants vs Put Warrants

Hong Kong stock warrants (also known as equity warrants) are highly popular derivatives in the Hong Kong market, allowing investors to use leverage to participate in market moves with relatively little capital. Warrants are divided into two main types: Call Warrants (Calls) and Put Warrants (Puts), which respectively suit bullish and bearish market views. This article provides an in-depth explanation of the mechanisms, pricing, and risk factors of both types, helping you understand how to use Hong Kong warrants in various market conditions.

What Are Hong Kong Warrants

The term "Hong Kong warrant" is a transliteration of the English "Warrant." The formal Chinese name is "equity warrant", and it is a derivative financial instrument. Warrants give the holder a "right" rather than an "obligation", allowing investors to buy or sell the underlying asset at a predetermined price (the "strike price") on or before a specified date ("expiry date"). The underlying asset can be a stock, index, commodity, or currency.

Key Features of Warrants

Warrants have several core features:

Leverage: Investors can gain exposure to price moves in the underlying asset with a smaller upfront investment, amplifying both potential returns and risks.

Limited Term: Every warrant comes with a set expiry date, after which it ceases trading and is settled.

Right, Not Obligation: Holders may choose whether or not to exercise their rights; the maximum loss is limited to the amount invested.

Two-Way Trading: Through calls and puts, investors can position for both rising and falling markets.

Compared to direct stock trading, warrant investing is exempt from Hong Kong's 0.1% stamp duty, which gives warrants a cost advantage. Longbridge Securities offers a range of trading services, including Hong Kong warrants.

Differences Between Warrants and Stock Investing

Direct stock investments only profit when the stock price rises—making it a one-way bet. Warrants enable two-way opportunities regardless of the market's direction, as investors can select the suitable warrant type. Furthermore, because of leverage, investors can participate in the market with less capital, but risks are magnified to the same extent.

Key Differences Between Call and Put Warrants

Call warrants and put warrants are the two basic types of warrants. Their price movements are opposite in direction and each suits different market views.

How Call Warrants Work

A call warrant gives its holder the right to buy the underlying asset. Calls are typically used by investors expecting a particular stock or index to rise.

How it works:

As the underlying asset price rises, the call warrant's value typically increases.

If the underlying trades above the strike price, the call is "in the money" and holds intrinsic value.

If the underlying is below the strike price, the call warrant is "out of the money" and only has time value.

Typical Use Cases:

Expectation of a short-term market or stock rally

Seeking upside participation with limited capital

As a hedge to protect a short (put) position

How Put Warrants Work

A put warrant gives its holder the right to sell the underlying asset. Puts are usually used when an investor expects a particular stock or index to fall.

How it works:

As the underlying price drops, the value of the put warrant typically rises.

If the underlying falls below the strike price, the put is "in the money" and has intrinsic value.

If the underlying is above the strike price, the put is "out of the money" and only has time value.

Typical Use Cases:

Expecting a short-term downtrend in the market or stock

Seeking profit in a falling market

Hedging existing stock positions

Delta Differences

Delta measures a warrant's sensitivity to the underlying asset's price changes:

Call warrant delta: ranges from 0 to 1; the closer to 1, the more the warrant price tracks the stock's movements.

Put warrant delta: ranges from -1 to 0; the negative sign indicates an inverse movement to the underlying asset.

Tip: Delta is not fixed; it fluctuates based on the underlying price, time to expiry, and volatility. In-the-money warrants have higher deltas, out-of-the-money warrants have lower deltas.

Key Factors Affecting Warrant Prices

A warrant's price is impacted by multiple factors, not just the underlying price. Understanding these drivers helps investors assess fair value and potential risks.

Underlying Asset Price

This is the most direct influence. Call warrants move in the same direction as the underlying price, whereas put warrants move oppositely. However, the scale of moves is influenced by delta, so it’s never a 1:1 relationship.

Strike Price and Intrinsic value

The distance between the strike price and current price determines whether a warrant is in-the-money (ITM), out-of-the-money (OTM), or at-the-money (ATM):

ITM warrants: Carry intrinsic value and have high delta; their price moves track the underlying closely.

ATM warrants: Strike is close to current market price; delta is around 0.5.

OTM warrants: Only have time value; delta is lower, leverage higher, and risk is greater.

Time to Expiry

Time until expiry is a major part of a warrant's value. The further from expiry, the higher the time value, as there is more opportunity for the underlying to move favorably. As expiry approaches, time value decays—this phenomenon is known as "time decay".

Implied Volatility

Implied volatility (IV) reflects market expectations of future price swings for the underlying. Higher IV usually means higher warrant prices since larger moves increase the chance a warrant expires "in the money".

It's important to note IV doesn’t always move in lockstep with the underlying. In some cases, even if the share price rises, a sharp drop in IV can cause a call warrant to fall in value.

Interest Rates and Dividends

While less impactful, rising interest rates generally favor calls and are a negative for puts. If the underlying pays dividends, this can affect warrant prices, especially around ex-dividend dates.

Major Risks of Investing in Warrants

Warrants are high-risk instruments, and investors must fully understand all risks involved to avoid losses exceeding expectations.

Time Decay Risk

Time decay is one of the most critical risks for warrant holders. Each day closer to expiry, the time value erodes. This decay isn’t linear—it accelerates as expiry nears.

Long-term warrants: Daily time decay is relatively gradual, suitable for longer holding periods

Short-term warrants: Daily time decay is faster, especially for short-dated OTM warrants

Investors should be mindful that even with the right directional view, a sideways market can still erode warrant value due to time decay. This is especially obvious in OTM warrants with low delta—small moves in the underlying might not be enough to offset time decay.

Implied Volatility Risk

IV reflects market expectations of future volatility. Changes in IV have a major impact on warrant prices. When IV rises, both calls and puts generally rise in value. If IV falls, warrant prices tend to drop.

IV frequently rises in times of market fear or uncertainty and falls when markets stabilize. Notably, the direction of IV changes doesn't always match stock price movements.

Leverage Risk

Warrant leverage is a double-edged sword: while it amplifies potential gains, it also magnifies losses. Actual leverage commonly ranges from 5x to 20x or more in extreme cases.

The maximum possible loss is the full capital invested. If the underlying moves against your position, combined with time decay and adverse IV movement, the warrant price can quickly fall to zero—especially for OTM warrants close to expiry.

Liquidity Risk

Some warrants suffer from thin trading and wide bid-ask spreads, so buying or selling at ideal prices may be difficult. While issuers typically provide liquidity, this isn't guaranteed in extreme market conditions.

Tip: Check turnover, circulation volume, and bid-ask spreads before trading. Focusing on warrants with good liquidity can reduce the risk of being unable to close a position in time.

How to Select the Right Warrant

Choosing the right warrant depends on several factors, including investment objectives, risk tolerance, market outlook, and time horizon. Here are some practical selection tips.

Type Selection Based on Market Outlook

First, clarify your view on the underlying asset:

Bullish: Buy calls to profit from an upward move

Bearish: Buy puts to profit from a down move

Expect volatility but direction unclear: Hold both calls and puts to profit from volatility expansion (straddle strategy)

Choosing the Right Expiry

Match your holding period and expected timeline for market changes:

Short term (1-3 months): Suitable for strong short-term convictions; beware fast time decay

Medium term (3-6 months): Balances time decay and flexibility; this is most common

Long term (6+ months): Slower time decay, but warrants are pricier and have lower leverage

Tip: Avoid warrants that are too close to expiry, especially OTM warrants, since time decay accelerates and correct calls may not play out in time.

Consideration of Intrinsic value

How deep a warrant is ITM or OTM directly impacts risk-reward:

Deep ITM warrants: High delta; price tracks the underlying closely; lower leverage and lower volatility

ATM warrants: Delta near 0.5; balance between leverage and stability

OTM warrants: Highest leverage and risk; potentially higher returns but larger risk of capital loss; suits aggressive investors

Beginners should go for ATM or slightly ITM warrants and experiment with OTM warrants only after gaining experience.

Assessing Effective Leverage and Delta

Effective leverage shows the theoretical percentage change in warrant price for a 1% move in the underlying. Delta shows how much the warrant price will change for a HK$1 move in the underlying (after factoring in the conversion ratio).

Don't just chase high leverage—always consider delta. Very low-delta warrants may not respond as expected to underlying price moves, even with high leverage.

Monitor Implied Volatility Levels

When comparing warrants on the same underlying, with similar expiry and strikes, IV can be used to assess whether a warrant is "cheap". Lower IV usually means the warrant is cheaper, but warrant prices can still fall if IV keeps dropping.

Longbridge Securities provides various trading tools to help investors compare warrant terms and pricing.

Practical Warrant Investment Strategies

After mastering the basics, investors can use warrants to build diversified strategies depending on the market trend or their personal goals.

Directional Strategies

These are the basic warrant strategies for those with a directional market view:

Bullish: Use call warrants to profit from rises in the underlying

Bearish: Use put warrants to profit from declines

When implementing direction strategies, pick warrants with moderate delta to balance leverage and stability, and always set stop-losses to cap your maximum possible loss.

Hedging Strategies

Warrants can hedge equity positions and help manage risk:

Protective Put: Buy puts as insurance if you hold underlying stocks

Hedging Call Positions: If you’re long calls, buying puts as a hedge can offset adverse moves

The cost of hedging is the price paid for the put. Assess if this cost is justified, and adjust hedges as the market moves.

Volatility Strategies

Expecting big moves but unsure about direction? Use volatility strategies:

Straddle: Buy calls and puts of the same strike and expiry

Strangle: Buy calls and puts with different strikes but same expiry

These only break even if there is enough price movement in either direction to cover the cost of both warrants. They're usually used before key market events (earnings, policy decisions), but IV often falls after the event.

Time Spread Strategies

Profit from differences in time decay by buying and selling warrants with different expiries—e.g., buy a long-term warrant and sell a short-term one. This is a more advanced strategy suitable for experienced investors.

Frequently Asked Questions

Can a Call Warrant Drop in Value Even if the Underlying Rises?

Yes. Even if the stock goes up, the call warrant may fall if IV drops sharply, if time decay erases underlying gains, or if low delta means the warrant isn't reacting enough to the underlying move. This is especially common in short-term OTM warrants.

Is Higher Leverage Always Better?

Not always. Higher leverage means larger potential returns—but also amplified risks. Delta matters: high-leverage, low-delta warrants may not respond to the underlying. Pick warrants that balance leverage and delta according to your goals and risk tolerance.

Are OTM Warrants Riskier Than ITM Warrants?

Typically, yes. OTM warrants only possess time value, have lower delta, and if they remain OTM at expiry, they become worthless. While OTM leverage is higher, so is the risk of losing all principal. ITM warrants have intrinsic value, higher delta, and more stable prices.

How to Tell if Implied Volatility Is High or Low?

Compare IV across different warrants on the same underlying, or with their historical IV levels. IV rises in market panic, drops in calm conditions. You can also check historical volatility (HV)—if IV is much higher than HV, the warrant may be overpriced.

How Are Warrants Settled at Expiry?

Most Hong Kong warrants are European-style—exercisable only at expiry. If in the money at maturity, the issuer automatically cash-settles and investors need do nothing. The settlement is (intrinsic value × holding quantity ÷ conversion ratio). OTM warrants expire worthless and the entire investment is lost.

How Should Beginners Get Started With Warrants?

Newcomers should thoroughly understand warrant basics and risks, and use demo trading to get familiar. When trading for real, start small, opt for ATM or slightly ITM warrants with longer expiry, and set strict stop-losses. Never invest money you can't afford to lose. Continue learning and gaining experience.

Conclusion

Hong Kong warrants provide two-way trading opportunities, enabling investors to seek profits in both up and down markets. Calls suit those bullish on the market, while puts are for bearish views. The leverage feature amplifies returns, but also risk. Time decay and volatility changes make warrant investing more complex than stock investing.

Before trading warrants, investors should fully understand their mechanics, pricing, and risks, and pick suitable products based on personal objectives and tolerance. Formulate clear strategies, set stop-losses, and manage risk through careful allocation—these are key for sound warrant investing.

Which instrument you choose depends on your goals, risk tolerance, market outlook, and experience. Always fully understand the workings, risks, and trading rules for any product, and put in place a solid risk management plan. Learn more at Longbridge Academy or by downloading the Longbridge App.