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A make-whole call enables a bond’s issuer to pay off a bond before it reaches its maturity date. It also requires the issuer to pay the lender an amount equal to the coupon payment’s net present value so the lender does not forgo money to which they’re entitled.

In other words, the lender will be made whole if the bond’s issuer decides to recall the bond because interest rates decline.

It works like this: Sally buys a $1,000 bond from Big Corporation that matures in 10 years. She receives two payments a year for lending Big Corporation the $1,000 that total $60. The bond pays a 6% coupon each year. The bond includes a make-whole call provision.

In year eight, interest rates drop suddenly and sharply. Big Corporation realizes it can finance its debts at a lower rate. So it decides to repay Sally her $1,000, plus, since the two agreed upon a make-whole call provision in the contract, the value of what she would have received for the final two years of coupon payments. Sally is made whole.

Make-whole payments are determined by a formula based on the net present value of the future coupon payments that won’t be paid.

Make-whole calls are commonly included in a bond’s contract, but they’re rarely invoked because costs can be high. They can be valuable to bond investors who rely heavily upon money they’re paid from coupon payments, however.

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