Question

Bond issuers will call bonds when it is favorable for them to do so. The benefit the issuer receives is a cost to the bondholders. Explain some of the ways in which bondholders are protected from calls.

Answer 1

Ways to protect bond holders from calls:

• Call protection period: during a call protection period, bonds cannot be called. The investor will continue to receive the coupon rate of interest. This protects the bondholder from losing a relatively high rate of fixed income until the call protection period ends. After the call protection dates, the ends can be redeemed at any time. The feature of call protection can be extremely beneficial to bond holders in the times of falling interest rates.
• Call premium: In case the bond holders redeem the bonds before its maturity date, in such a case the issuers have to pay a premium, that is a price is paid for the security which is above the issue price. In case, the issuers call the bonds during the call protection period the issuer has to pay a call premium as a penalty to the bond holders.