Thursday, July 17, 2008

Callable Bond - Muni Bond Call Features

Most municipal bonds are callable because municipalities need to protect their interest rate risk and fiscal spending more than private corporataions. Corporate bonds can be callable, but more munis - per bond have this feature.

A bond being called means the issuer has redeemed the security early because they wish to refinance the notes or bonds at a lower rate or is looking to retire the debt completely. This can only be done based on an upfront disclosure of the call dates, prices and options on when these can be redeemed and even the circumstances in many cases.

Each municipality is different and each bond offering has it's own features but most issues will have multiple or continuing call dates throughout the life of the muni issue. This allows the city, state or other municipality have greater flexibility on when the bond can be called. Interest rate environments change and should rates decline sharply but passed a one time call date, it could damage the issuer. This is why many muni issues have multiple callable dates.

The most common reason why any bond is called is that interest rates have declined enough where the paying interest rate to bondholders is too expensive or well above market. Calling back early allows the municipality to come out with cheaper bonds (interest cost to them) at a lower rate.

Changing maturity schedules could be another reason redeem muni issues early.

Recommended Muni Bond Reading

The Handbook of Municipal Bonds (Frank J. Fabozzi Series)

2 comments:

Nick said...

Some issues will have mandatory call features. These rules are put in place to protect the municipality from potential mis management and to set certain rules such as if interest rates fall below a certain level, the bond must be redeemed etc.

Tax Free Investing said...

While municipal bonds are available in both taxable and tax-exempt formats, the tax-exempt bonds tend to get the most attention because the income they generate is for most investors exempt from federal and, in many cases, state and local income taxes. Municipal bonds are considered to be one of the best ways to invest money.