Puttable bond (put bond, putable or retractable bond) is a
bond with an
embedded put option. The holder of the puttable bond has the right, but not the obligation, to demand early repayment of the
principal. The
put option
In finance, a put or put option is a derivative instrument in financial markets that gives the holder (i.e. the purchaser of the put option) the right to sell an asset (the ''underlying''), at a specified price (the ''strike''), by (or at) a s ...
is exercisable on one or more specified dates.
Overview
This type of bond protects investors: if interest rates rise after bond purchase, the future value of coupon payments will become less valuable. Therefore, investors sell bonds back to the issuer and may lend proceeds elsewhere at a higher rate. Bondholders are ready to pay for such protection by accepting a lower
yield relative to that of a straight bond.
Of course, if an issuer has a severe
liquidity crisis, it may be incapable of paying for the bonds when the investors wish. The investors also cannot sell back the bond at ''any'' time, but at specified dates. However, they would still be ahead of holders of non-puttable bonds, who may have no more right than 'timely payment of interest and principal' (which could perhaps be many years to get all their money back).
The price behaviour of puttable bonds is the opposite of that of a
callable bond. Since
call option
In finance, a call option, often simply labeled a "call", is a contract between the buyer and the seller of the call option to exchange a security at a set price. The buyer of the call option has the right, but not the obligation, to buy an ...
and
put option
In finance, a put or put option is a derivative instrument in financial markets that gives the holder (i.e. the purchaser of the put option) the right to sell an asset (the ''underlying''), at a specified price (the ''strike''), by (or at) a s ...
are not
mutually exclusive, a bond may have both options embedded.
Pricing
:''See also
Bond option: Embedded options, for further detail.''
Price of puttable bond = Price of straight bond + Price of put option
* Price of a puttable bond is always higher than the price of a straight bond because the put option adds value to an investor;
* Yield on a puttable bond is lower than the yield on a straight bond.
Putable Bonds
/ref>
References
External links
David Wang, ''Journal of Academy of Business and Economics, International Academy of Business and Economics'', 2004
Resolution Financial Software
Bonds with Embedded Options and Options on Bonds
{{Bond market, state=collapsed
Bonds (finance)
Options (finance)
Embedded options