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FRM Part I · FRM Exam Part I · The Black-Scholes-Merton Model

Which statement correctly distinguishes a company-issued warrant on its own stock from a standard exchange-traded call option on that stock?

When a warrant is exercised, the issuing company creates new shares and receives the strike price in cash, so the share count rises and existing shareholders are diluted. A traded call option is settled between investors and does not change the number of shares outstanding.

  1. AExercise of the warrant causes the company to issue new shares and receive the strike price, which dilutes existing shareholdersCorrect
  2. BExercise of the warrant is settled between option traders and leaves the number of shares outstanding unchanged
  3. CThe warrant holder must deliver existing shares purchased in the market to the company
  4. DWarrants can be valued only with binomial trees because the BSM model cannot be applied to them

Explanation

A warrant is issued by the company, so exercise creates new shares and brings strike proceeds into the firm. The number of shares rises and existing holders are diluted. An exchange-traded call is a contract between investors and does not change the share count.

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