Callable Bonds Term Paper Example | Topics and Well Written Essays - 3000 words

callable Bonds - Term Paper ExampleThere ar different reasons as to why companies issue callable stick arounds, as noted by Frykman and Tolleryd, one of the reasons as to why companies issue callable binds is because of their ring stakes rate (173). The point is that, the moment relate localize reduce, the upshot companies can then repay the bonds at lower interest rates. This paper aims at examining callable bonds. Overview As explained by Le callable bonds allows those acceptance the option of re-investing if the interest rates reduces (4). This implies that companies are able to hedge against promising reduction of interest rates in future. It is because of this aspect tha makes callable bonds to be prefered by many investors particularly forward 1990s. In deed, before 1970, nearly all companies issued bonds that had were callable. But, as from 1970 to 1990, callable bonds being issued trim back to about 80%. This was attributed to developents that had taken place wit hin the interest rate derivaive markets over that period. Presently, the number of callable bonds on the market has greatly reduced accounting for less than 30%. According to Le the reason for this reduction is the fact that, it has become easier for companies to hedge against the interest rate risks (4). Explaining callable bonds When a phoner issues a bond, it has to make a critical close regarding the type of bond it will issue, if it will be a callable bond or a regular one. In defining a callable bond Brigham and Houston states that callable bond, also known as redeemable bond is a kind of bond that permits the issuing secure to retain the benefit of avocation in the bond at a certain time before the maturity date (220). This implies that the issuing firm retains the right of buying back the callable bond, though it is not obligated to do that. Basically, the bonds are not in actual sense bought back by the issuing firm rather the firm cancels them immediately. When recalli ng the callable bonds, the issuing firm has to pay more than the par price. In some cases, for example in high-yield debt industry, the call premium could be considerable high. Therefore, the issuing firm has a choice, of either paying a higher premium or waiting until the bonds mature. Brigham and Houston notes that supposing the interest rates prevailing in the market go down at the time of calling back the bonds, then the issuing company will be in a position to refinance its debt cheaply (220). Accordingly, as the interest rates reduce, the value of the bonds increases, thus, it is sound to re-buy the bonds at their par value. When callable bonds are used, the investors are given the advantage of a higher figure or value, as opposed to what they have gained with regular bonds. However, when the interest rates reduce, the issuing firms will likely recall the bonds and just invest them at interest rate is low. The moment a company has recalled the bond, the company can as well r eissue the similar bonds at a much lower interest rate. This process of reissuing bonds to save money on the interest payment is referred as refunding. Brigham and Houston notes that before the bonds are recalled, the bond holders are informed by a letter, one of the agreements when investing in a callable bond (221), is that the investors agree that the bonds can be bought back and the investors should be ready to sell the bonds. However, companies recalling the bonds