What Is an Election Period?
An election period is a period during which an investor who owns an extendable or retractable bond, or the issuer of those bonds, must indicate whether or not they will exercise their option to extend or retract those bonds.
An extendable bond is a long-term debt security that includes an option to lengthen its maturity period. Conversely, A retractable bond is a one that features an option for the holder to force the issuer to cover the bond before its maturity at par value.
An election period may also refer to the timeframe when a person may sign up for Medicare or other benefits.
- An election period is a period during which an investor in an extendable or retractable bond must indicate if they will exercise their option to extend or retract.
- An election period can vary in duration from just a few weeks or months up to the entire life of the original bond issue.
- A bond's prospectus will include the schedule of its election period.
- The broad term "election period" may also refer to the timeframe when a person may sign up for Medicare or other benefits.
Understanding Election Periods
An election period can vary in duration from just a few weeks or months up to the entire life of the original bond issue. Typically, a bondholder requires some degree of advanced notice if a bond issuer intends to extend the maturity of the loan.
Investors must be aware of when the election period opens and closes for their holdings. The prospectus will include the schedule of this period. A prospectus is a legal document that provides details about the investment and is required by the Securities and Exchange Commission (SEC).
Extendable Bond Election Periods
For example, let’s say that a group real estate investors buy an office building for $10 million, by putting down $1 million of their own cash, and borrowing the other $9 million from the bank at 3% interest over ten years.
The investors, plan, however, is to sell the building well before the loan is due because they expect property values in this location to rise quickly. So they decide to take out an interest-only note, wherein the principal is due in one lump-sum at the end of 10 years. But to hedge their bets, they make sure that their loan is extendable by between one and three years, just in case the property doesn't appreciate as quickly as they expect.
The bank agrees to make the loan extendable, but to compensate for the added risk, the investors will pay 4% interest in the 11th year, 5% interest in the 12th, and 6% interest in the 13th. After 13 years, the principal is due, with no more extensions allowed.
In this scenario, there are three different election periods, during the 12th month of the 10th, 11th, and 12th years, respectively. The real estate investors are given one month to tell the bank whether they intend to extend the bond another year.
Retractable Bonds Election Periods
Companies sometimes decide to sell retractable bonds to investors. These are bonds where the holder has the option to demand full repayment before maturity, at one or more predetermined dates.
Investors like retractable bonds because they offer protection during times of rising interest rates. If rates rise, the investors have the option of retracting the bond and issuing a new one at a higher interest rate.
Companies may decide to issue retractable bonds because they can receive more favorable terms from lenders. Lenders give favorable terms in exchange for assuming the interest-rate risk. In such a scenario, there would be an election period in the lending agreement during which the lender would have to let the borrower know whether it has decided to retract the bond.