What it means
The call price is normally set out as a schedule rather than a single figure. Each permitted redemption window has its own price, and those prices step down towards face value as the bond approaches maturity.
Prices are quoted as a percentage of par, which trips people up at first. A call price of 103 does not mean $103; it means 103% of the face value, so $1,030 on a standard $1,000 bond.
The call price acts as a ceiling on the bond's market price. If investors know the issuer can buy the bonds back at $1,020, few will pay much more than that, so callable bonds do not rally as far as comparable non-callable bonds when rates fall.
Preferred shares work the same way, typically callable at their $25 or $100 issue price after an initial protected period. This is why quoted yields on preferred shares are often shown to the first call date rather than in perpetuity.
There is one important exception. A make whole call price is not a fixed percentage but a calculated figure based on the present value of all remaining coupons and principal, discounted at a government bond yield plus a small spread, which usually makes it expensive enough that issuers rarely use it.
In practice
Real-world examples.
Example
A telecoms group issues ten year bonds with a call schedule of 103 in year five, 102 in year six, 101 in year seven and 100 thereafter. When it redeems in year six, holders of a $10,000 position receive $10,200 plus accrued interest.
Example
An income fund notices that one of its holdings trades at 104 while its next call price is 101 in four months. The manager sells the position rather than risk a forced redemption three points below the current market price.
Example
A bank redeems a series of $25 preferred shares at their $25 call price after the five year protected period ends. Holders who bought at $27 on the secondary market take a $2 per share capital loss despite having collected the dividend throughout.
Formula
Calculation
Amount received per bond = (call price as a percentage of par x face value) + accrued interest
Accrued interest per bond = face value x coupon rate x (days since last coupon / 360)
An investor holds 200 bonds with a $1,000 face value and a 6% annual coupon paid twice a year. The issuer calls the bonds at 102, which is 102% x $1,000 = $1,020 per bond.
The principal element is 200 x $1,020 = $204,000. That includes a call premium of 200 x $20 = $4,000 over the $200,000 face value.
The call falls 60 days after the last coupon payment, so accrued interest per bond is $1,000 x 6% x 60 / 360 = $10.00, and across the holding that is 200 x $10.00 = $2,000. The investor therefore receives $204,000 + $2,000 = $206,000 in total on the redemption date.Case study
Seen in the real world.
The following is an illustrative and entirely fictional example. Cadmore Regional Water, an invented utility, had 40,000 bonds outstanding at $1,000 face value with a 6.75% coupon and a call price of 101 from year seven. An income fund, Thornbury Yield Partners, also invented, bought 5,000 of them in the secondary market at $1,048 because the coupon looked attractive against prevailing yields.
Nine months later Cadmore called the entire issue. Thornbury received 5,000 x $1,010 = $5,050,000 against a purchase cost of 5,000 x $1,048 = $5,240,000, crystallising a capital loss of $190,000. Coupon income over those nine months came to roughly 5,000 x $1,000 x 6.75% x 9 / 12 = $253,125, so the position still finished ahead by about $63,125, but far behind what the headline yield had implied.
The illustrative point is that paying $1,048 for a security the issuer could buy back at $1,010 was a decision with a known worst case built into it. A yield to call calculation would have shown that risk before the trade was placed rather than after.
Watch out
Common mistakes.
- Reading a call price of 102 as $102 rather than 102% of the face value of the bond.
- Buying a callable bond well above its next call price and treating the difference as recoverable through coupon income alone.
- Forgetting that accrued interest is paid on top of the call price, and so understating the cash actually received.
Questions
People also ask.
Is the call price the same as the market price?
No, the market price moves with interest rates and credit conditions, while the call price is fixed contractually in the offering documents.
Can an issuer choose to pay more than the call price?
It has no obligation to, though an issuer wanting to retire debt outside the call schedule may launch a tender offer at a negotiated price instead.
What happens if only part of an issue is called?
A partial call is normally allocated by lottery or on a pro rata basis, so an investor may have only some of a holding redeemed.
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