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RESEARCH PRODUCT

Warrant Exercise and Bond Conversion in Large Trader Economies

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It is well known that the sequential (premature) exercise of American-type warrants may be advantageous for large warrantholders, even in the absence of regular dividends, because using exercise proceeds to repurchase stock or to expand the firm's scale increases the riskiness of an equity share. We present an upper bound on this advantage and show that this advantage is negligible for a realistic parameter setting. This result, however, does not justify in general the simplifying restriction that warrants or convertible securities are valued as if exercised as a block. It turns out that the option to exercise only a fraction of the outstanding convertibles at the maturity date (partial exercise option) has a positive value in large trader economies. Moreover, we show that there is a gain from hoarding warrants in the presence of at least two large warrantholders.