Callable bond
A bond the issuer may repay early. They will do it when rates fall, so the holder gives up the upside and is paid a higher yield for it.
Where you will meet it
Callable bond appears in 15 learning outcomes on the CFA syllabus. A few of them:
- Work out both yield to worst and yield to call
“For a callable bond, yield to maturity describes only one of several possible outcomes.”
- Explain how a callable or putable bond's value links to the value of its embedded option and of the equivalent straight bond
“For a callable bond the issuer owns the call, so in value terms callable = straight − call, and call = straight − callable.”
- Explain what drives the return on a bond portfolio when benchmark yields change
“Callable bonds and mortgage-backed securities have negative convexity: they gain less when yields fall and lose more when yields rise than comparable option-free bonds.”
- Set out the measures used to gauge risk and return in a bond portfolio and how bonds co-move with other assets
“Effective duration is used when cash flows depend on rates, as with callable bonds or mortgage-backed securities.”
Practise it
Practise callable bond until it is automatic: questions that explain every wrong option.
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