Warrants: The "Unfair" Edge in Private Investments
Warrants, my friends, are like the cherry on top in the world of private placements. They're your golden ticket to potential riches without risking your shirt.
Entering the realm of private investments opens doors to profits that the average Joe on Wall Street might never see. But tread lightly if you're a newbie - it's easy to get burned. If private placements sound Greek to you, check out my introductory piece first. Ready to delve into the juicy bits of private investments? Buckle up, we're diving into the world of warrants!
What's a Warrant Anyway?
Imagine a warrant as a zero-cost opportunity to buy more stock in a company where you've already invested. Sounds too good to be true, right? But it's real! When you buy into a private placement, you're typically getting a package deal: one part common share, one part warrant (either half or full).
Let's break it down with an example:
You pay $0.50 per unit, each unit consisting of one common share and a 1/2 warrant. The warrant lets you buy more shares at $0.75 for two years after the financing closes. Invest $5,000, and you get 10,000 shares plus 5,000 warrants. These warrants give you a two-year window to buy more shares at $0.75 – not a steal when the stock is at $0.50, but who knows what the future holds?
The best part? This warrant doesn't cost you a dime. It's a sweet little bonus for joining the private placement party.
Why Warrants Rock for Investors
Absolutely, warrants are the MVPs of private placements. Sure, there are other factors at play, and not every deal comes with a warrant. But nothing beats a free shot at the jackpot.
Think 50 cents to 75 is a big leap? In the wild world of small-cap stocks, a single piece of news can skyrocket a stock by hundreds of percent. So, a 50% increase over two years? Child's play.
Now picture this: you jump into a new private placement every month. That's 12 chances a year, each lasting two years, to strike gold. Even if you ditch the shares early, you're still in the game for the big wins. Compare that to holding stock in each deal - too risky and not nearly as fun.
The Catch? There's Always One
The hitch in this get-rich-quick scheme is simple: to grab those free warrants, you've got to buy into the placement first. Shares from these deals usually can't be traded for four months. So even if you're just in it for the warrants, your money's tied up in the stock for a bit and you are exposed to market risk (e.g. a falling stock price).
Thats why we don't just jump into any old placement. We're treasure hunters, looking for the golden deals with massive upside potential. I steer clear of low-quality deals where the warrants are about as useful as a chocolate teapot. The better the company, the better your chances with the warrants. Skip the mediocre, aim for the stars.
My Personal Warrant Playbook
Here's the deal: the potential for any hotshot junior company is huge, but so is the risk. Looking at each investment individually, it's a gamble.
But what if I told you that by amassing a portfolio of 10-20 high-quality placements, your odds start looking pretty sweet? My strategy is to pick deals where I'm fairly confident I can sell the shares at little to no loss shortly after the placement.
How do I pick these winners? Here are my go-tos:
Price Action: Did the price increase signficantly right before a placement or are we still trading in the average range of the last few months?
Valuation: Do I like the investment at the private placement price regardless of the warrant?
Cap Table: Any cheaper stock about to hit the market? Are there old warrants lurking around? If yes, their exercise price is ideally signficantly above the current stock price.
Liquidity: Can I sell my shares easily when I want to?
Market sentiment: The junior markets can be very cyclical. You want to invest in private placements, when money is flowing into juniors and not when capital is hiding. In 2023 I did the fewest placements in a decade and that was my single best investment decision last year.
Fundamentals: If the company story, team, etc., don't excite me, I'm out. Regardless how many other boxes are checked.
That's about the depth of my dive. After all, successful companies could multiply my investment many times over. But since no one has X-ray vision for drilling grounds, I play it smart and avoid obvious pitfalls.
A Few Parting Thoughts...
I don't always sell my shares right after the restriction lifts. Sometimes, I'm in it for the long haul. But, especially with early-stage companies, I like to play it safe while keeping my fingers in the pie for those potential big wins.
Thanks to warrants, I can minimize my risk and still cash in when a company hits the jackpot. What I lose by selling shares early, I more than make up with the wins from my warrants.
So yes, warrants do offer an outrageously "unfair" advantage in private placements. What's your move? Will you still only buy in the markets or start grabbing some of those juicy placements and warrants?
If the latter is your answer - this newsletter is for you.