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Series 7 practice questionhardEquity Securities — Warrants — Scenario

An investor purchases warrants with an exercise price of $35 per share. The warrants were issued with a 5-year expiration. The current market price of the underlying stock is $30. Which statement is TRUE?

  1. AThe warrants have no intrinsic value but may have time value✓ Correct answer
  2. BThe warrants should be exercised immediately for a $5 profit
  3. CThe warrants are in the money and should be sold
  4. DThe warrants will expire worthless at the end of the trading day
Explanation

Why A — The warrants have no intrinsic value but may have time value

Since the exercise price ($35) is above the current market price ($30), the warrants are out of the money and have no intrinsic value. However, because they have 5 years until expiration, they retain time value — the possibility that the stock price will rise above $35 before expiration. Warrants typically have significant time value due to their long expiration periods.

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