If a company's bonds are callable,

Question

Quizplus · Accepted Answer

If a company's bonds are callable, the correct answer is:
b. the issuing company is likely to retire the bonds before maturity if the bonds are paying 8% interest while the market rate of interest is 4%.
Callable bonds give the issuer the right, but not the obligation, to buy back the bonds from bondholders at a specified call price before the bonds' scheduled maturity date. This feature is often used by issuers to refinance debt if interest rates decline after the bonds are issued. In the scenario given, if the bonds are paying an interest rate of 8% and the market rate of interest has fallen to 4%, the issuing company may choose to call the bonds to issue new debt at the lower interest rate, thereby reducing their interest expenses.
The other options are incorrect for the following reasons:
a. The bondholder does not have the right to sell an option on the bond; rather, the issuer has the right to call the bond back.
c. Callable bonds can remain outstanding until the maturity date if the issuer chooses not to call them.
d. The investor typically knows what the redemption price will be because it is specified in the bond's indenture at the time of issuance. The redemption price is often set at a premium to the bond's face value, especially during the early years following issuance.

If a Company's Bonds Are Callable