What is Call Price?
Call price refers to the price that a preferred stock or bond issuer would pay to buyers if they wish to buy back or call a part of the issue before the maturity date. It is set during the issuance of the security and mentioned in the prospectus of the issue.
Call price can be commonly found in the callable preferred stocks or callable bonds. The issuer of the preferred stock or bond can rightfully buy that bond or preferred stock back from the creditor or investor at the call price.
- Call price refers to the price that a preferred stock or bond issuer would pay to buyers if they wish to buy back or call a part of the issue before the maturity date.
- The specification of the call price and the timeframe that it can be triggered are typically set out in the bond indenture agreement.
- Callable securities allow the issuers to buy back the issued security at a specified price – known as the call price – if there is a change in the market price or interest rate.
Significance of Call Price
The specification of the call price and the timeframe that it can be triggered are typically set out in the bond indenture agreement. It allows the bond owner to necessitate the buyer to sell the bond back, usually at its face value, along with any negotiated percentage due. The premium may be fixed at an interest rate of one year. Based on the structure of the terms, the premium can decrease as the bond matures due to the repayment of the premium.
Some non-callable bonds may become callable after a certain initial period. When a company calls back a bond, it usually makes considerable economic gains in potential interest rates. The gains are made at the cost of a bondholder, who may be compelled to spend the funds at a lower interest rate. The lender is not required to make interest payments after the bond is called back.
A business can also use its authority to call preferred shares if it decides to discontinue dividend payments related to the securities. It will choose to do so to maximize the wealth of common shareholders.
Investors must understand that the presence of an embedded call option in the bond influences the liquidity of the bond. A non-callable bond is worth more than a callable bond to the investors since the bond’s owner has the right to redeem a callable bond and deny the bondholder of the extra interest payments to which he/she would have been eligible if the bond had been retained to maturity.
Call Price and Call Premium
Callable securities are normally present in fixed-income markets. They allow the issuers to buy back the issued security at a specified price in the event of a change in the market price or interest rate. The price is denoted as the call price. Thus, callable securities enable investors to protect themselves from overpaying debt.
For example, if a business issues a bond that pays a fixed coupon at 4% and the interest rate is also 4%, it will utilize the call option to repay the bond if the interest rate decreases to, suppose, 2.5%, refinancing the debt.
Since the call option favors the lender and not buyers, the shares sell at high premiums to reimburse the qualifying bondholders for:
- The risk of reinvestment that they are subjected to
- Depriving them of potential interest income
As a result, a call premium is paid by the issuers. The call premium shall be a value over and above the security’s face, which shall be paid if the security is retrieved before it matures. Alternatively, the difference between the bond’s call price and the specified par value is the call premium.
In the case of non-callable securities or bonds that are retrieved early during the period of call insurance, the call premium shall be a penalty that the issuer pays to the bondholders.
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