They tell me that I can earn extra income from dividends when buying warrants rather than shares, how does this work?
Instalment warrants gives holders the ability to gain exposure to price movements in underlying shares by making an initial payment and an optional second payment on expiry. There are a number of benefits of using Instalment Warrants including leverage and diversification, prepaid interest deductibility and enhanced dividend yield.
To address this month’s question, we will discuss the enhanced dividend yield benefit.
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Holders of Instalment Warrants are entitled to the full dividend and franking credits paid on the underlying share, even though they may have only partially paid for the share (i.e. paid the first instalment).
Generally, an Instalment’s price is 50% of the underlying share price, so the dividend stream represents an enhanced yield compared to the income received by the holder of a fully paid share.
As you can see the dollar amount per dividend is the same for both a direct share investment and an Instalment. In percentage terms, however, the returns from the Instalments are much higher because of the smaller capital outlay. The more highly geared the Instalment the higher the dividend yield.
In addition to an enhanced dividend yield, holders may also earn additional income from holding Instalments over Australian shares, as they can also gain proportionally more franking credits than they would from holding the underlying share. The higher franking credits may be particularly attractive for superannuation funds where they can potentially be used to offset tax payable both on the fund’s earnings and on contributions into the fund.
For more information
For further information on Instalment Warrants, visit the Australian Stock Exchange website www.asx.com.au. The ASX have a booklet titled “Understanding Trading and Investment Warrants” which is designed to give you a comprehensive understanding of the different types of warrants and how they work. A number of Instalment Warrant strategies are also available for download.
By Stephen Karpin, General Manager, CommSec
Commonwealth Securities Limited (“CommSec”) ABN 60 067 254 399 AFSL 238814 is a wholly owned, but non-guaranteed, subsidiary of the Commonwealth Bank of Australia (“the Bank”) ABN 48 123 123 124 AFSL 234945.
This article was produced by CommSec. The information in this article is general in nature and does not take into account any investor’s particular objectives, financial situation or needs. In considering its appropriateness, investors should read the relevant product disclosure statement and consult a financial adviser before making an investment decision. Except to the extent that any liability under any law cannot be excluded, no liability for any loss or damage which may be suffered by any person, directly or indirectly, through relying upon any information or statement in this document is accepted by the Commonwealth Bank or CommSec or any of their directors, employees or agents, whether that loss or damage is caused by any fault or negligence on their part or otherwise. Commonwealth Bank and its subsidiaries do not guarantee the obligations or performance of CommSec or the products or services offered.
Information contained in the brochure entitled “Understanding Trading and Investment Warrants” is produced by ASX Operations Pty Limited ABN 42 004 523 782 (‘ASX’) and intended for general information only. Neither ASX nor any related body corporate of ASX has had any involvement in the preparation of any part of this document, accepts responsibility for any statement herein, or has been involved in or consented to the issue of this document.
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