Fixed Income Investments - Provisions for Redeeming Bonds

The provisions for redeeming bonds are found in the indenture. They can be:

1.Called
2.Refunded
3.Have Prepayment Options and/or
4.Sinking Fund Provisions

1. Call Redemption
By adding a call feature in the indenture, a bond becomes a callable bond. A callable bond gives the issuer the right to redeem the bonds on a stated date or a schedule of dates before the stated maturity date for the bonds arrives.

Let's look at callable bonds in a little more detail. First, some terminology:

  • Call Price - This is the price that the issuer will pay the bondholder; also know as the redemption price.
  • Call Date - This is the date or dates that the issuer can call the bond from the holders.
  • Deferred Call - When a callable bond is originally issued, it is said to have a deferred call of so many years up to the first call date, which is the first day the bond can be called by the issuer.

Redemption Pricing

  • Regular or General Redemption Prices - These price tend to be above par until the first par call date. The price is typically known before the redemption occurs.
  • Special Prices - These occur because of certain events such as sinking funds, repossessions, forced sales, and eminent domain. These usually occur at par value but could be less, depending on the collateral backing the bonds.

Calling Bonds
When callable bonds are called, it can be for the entire issue or for just a part of it. A partial call can be done on a random basis, like picking numbers out of a hat, or on a pro rata basis. A pro rata call allows all holders to redeem a certain percentage of their holdings while with a random, partial call it could be anyone's guess as to which bonds will be called by the issuer.

Price can be determined as a fixed price, regardless of dates, based on a predetermined schedule of dates in which price decreases as it nears the bond's maturity date, as well as through a make whole call.

Example: Call Redemption
Let's use the Stone and Co 12's of 20, or Stone and Co 12% bonds of 2020 to illustrate a scheduled call.

Fixed price regardless of date:
This call provision allows the bond to be called at par plus interest at any date past Jan.1, 2010.

Price based on Schedule.
This call provision bases its price on stated dates with the price decreasing as the bond nears maturity.

Jan 1. 2010 Price = 103 or $1,030 based on a par value of 100

Jan 1. 2012 Price = 102 or $1,020 based on a par value of 100

Jan 1. 2015 Price = 101.5 or $1,015 based on a par value of 100

Price based on a Make-Whole Premium
This structure incorporates various formulas that can be structured to develop the price. The formula is structured to protect the yield the investor had been receiving on his bond.

Refunding


Related Articles
  1. Bonds & Fixed Income

    Bond Call Features: Don't Get Caught Off Guard

    Learn why early redemption occurs and how to avoid potential losses.
  2. Professionals

    Retiring Corporate Bonds

    FINRA Series 7 Online Study Guide, Section 4
  3. Professionals

    Pricing Bonds

    CFA Level 1 - Pricing Bonds. Learn the basics of bond pricing and the relationship between coupon rate and yield. Discusses option and floating-rate security pricing.
  4. Investing Basics

    Understanding Redemption

    In the investing world, redemption refers to cashing out the value of bonds or mutual funds.
  5. Options & Futures

    Callable Bonds: Leading A Double Life

    Find out more about these dangerous and exciting cousins to regular bonds.
  6. Bonds & Fixed Income

    How To Evaluate Bond Performance

    Learn about how investors should evaluate bond performance. See how the maturity of a bond can impact its exposure to interest rate risk.
  7. Professionals

    Bond Pricing

    Once issued, corporate bonds trade in the secondary market between investors similar to the way equity securities do. The price of bonds in the secondary market depends on all of the following: ...
  8. Professionals

    Bond Pricing

    Once issued, corporate bonds trade in the secondary market between investors similar to the way equity securities do. The price of bonds in the secondary market depends on all of the following: ...
  9. Professionals

    Call and Prepayment Risk

    CFA Level 1 - Call and Prepayment Risk. Learn the sources of call and prepayment risk and why it can occur. Highlights the disadvantages of investing in prepayable or callable bonds.
  10. Professionals

    Types Of Bonds

    We look at the many types of bonds and explain what differentiates them from each other.
RELATED TERMS
  1. Term Bond

    Bonds from the same issue that share the same maturity dates. ...
  2. Call Date

    The date on which a bond can be redeemed before maturity. If ...
  3. Call Privilege

    The provision in a bond indenture that gives the bond issuer ...
  4. European Callable Bond

    A bond that can be redeemed by the issuer at a predetermined ...
  5. Mandatory Redemption Schedule

    Specified dates when a bond issuer is required to redeem all ...
  6. Hard Call Protection

    The period in the life of a callable bond during which the issuing ...
RELATED FAQS
  1. A corporate bond I own has just been called by the issuer. How can a company legally ...

    Bond issues can contain what is referred to as a call provision, which is a right afforded to the issuing company enabling ... Read Answer >>
  2. Why is a premium usually paid on a callable bond?

    Understand the nature and characteristics of callable bonds, and specifically why those factors lead issuers to offer a premium ... Read Answer >>
  3. What happens to the price of a premium bond as it approaches maturity?

    Learn how bonds trade in regard to premiums and discounts, and how bond prices shift closer to par value as bonds approach ... Read Answer >>
  4. Why doesn't the price of a callable bond exceed its call price when interest rates ...

    A callable bond provides the issuer (borrowing entity) with an option to redeem the bond before its original maturity date. ... Read Answer >>
  5. What risk factors should investors consider before purchasing a callable bond?

    Understand the difference between callable and non-callable bonds and consider all the various risk factors associated with ... Read Answer >>
  6. Why do companies issue callable bonds?

    Learn how callable bonds work, how they include an embedded call option, and understand the additional risks that callable ... Read Answer >>
Hot Definitions
  1. Law Of Demand

    A microeconomic law that states that, all other factors being equal, as the price of a good or service increases, consumer ...
  2. Cost Of Debt

    The effective rate that a company pays on its current debt. This can be measured in either before- or after-tax returns; ...
  3. Yield Curve

    A line that plots the interest rates, at a set point in time, of bonds having equal credit quality, but differing maturity ...
  4. Stop-Limit Order

    An order placed with a broker that combines the features of stop order with those of a limit order. A stop-limit order will ...
  5. Keynesian Economics

    An economic theory of total spending in the economy and its effects on output and inflation. Keynesian economics was developed ...
  6. Society for Worldwide Interbank Financial Telecommunications ...

    A member-owned cooperative that provides safe and secure financial transactions for its members. Established in 1973, the ...
Trading Center