A put option on a bond, also known as a put provision, gives the holder the right to demand the issuer pay back the principal before the bond matures, for whatever reason.
How does a putable bond work?
A putable bond (put bond or retractable bond) is a type of bond that provides the holder of a bond (investor) the right, but not the obligation, to force the issuer to redeem the bond before its maturity date. In other words, it is a bond with an embedded put option.
Are puttable bonds risky?
The puttable bonds can reduce the reinvestment risks of the investors. This is because when the interest rate in the market rises, the bondholder can sell the puttable bond which is trading at a lower coupon rate and invest the same money in buying other bonds which are trading at higher interest rates.
How do you price a puttable bond?
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.
Can you buy puts on bonds?
A bond option is an option contract with a bond as the underlying asset. Individuals can buy or sell some bond call or bond put options in the secondary market though bond option derivatives are much more limited in scope than stock or other types of options contracts.
Who has the right in case of putable bond?
One type of bond that is favorable to investors is the put, or puttable, bond. A put bond is a bond with an embedded put option, giving bondholders the right, but not the obligation, to demand early repayment of the principal from the issuer or a third party acting as an agent for the issuer.
Do callable bonds have higher yields?
Yields on callable bonds tend to be higher than yields on noncallable, “bullet maturity” bonds because the investor must be rewarded for taking the risk the issuer will call the bond if interest rates decline, forcing the investor to reinvest the proceeds at lower yields.
What is the difference between callable and putable bonds?
In contrast to callable bonds (and not as common), putable bonds provide more control of the outcome for the bondholder. Just like callable bonds, the bond indenture specifically details the circumstances a bondholder can utilize for the early redemption of the bond or put the bonds back to the issuer.
What is the difference between bonds and options?
Bonds are usually held for as many as 30 years or more as a fixed income investment while stock options are usually held short term, seldom more than a month or two, in order to profit from a short term move in the underlying stock. Bonds are buy and hold type of investment while stock options are trading instruments.
