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On the Pricing and Early Call of American and Bermudan Callable Bonds

26 Pages Posted: 5 Nov 2012  

Maxime Debon

Université d'Évry

Franck Moraux

Université de Rennes I and CREM

Patrick Navatte

Université de Rennes I

Date Written: March 1, 2012

Abstract

This paper reconsiders American and Bermudan callable bonds and highlights their key differences. We illustrate how the level of interest rate critical for calling Bermudan Callable Bonds (BCBs) can differ from those critical for calling American Callable Bonds (ACBs). We also stress that it is costly for ACB issuers to follow a discrete early call policy. An empirical simulation finally suggests that every US bond issuer having included a call provision between 1993 and 2011 would have called back their debt especially those holding a Bermudan style redemption option. Compared to ACBs, BCBs can more favorably face unexpected changes of the term structure of interest rates. We observe that a discrete monitoring policy for ACBs may be approximately as profitable as the Bermudan regular call policy, but BCBs are less expensive than ACBs at issuance. Our empirical simulation explains why investors require call deferment periods in call provisions.

JEL Classification: G12, G17, G34

Suggested Citation

Debon, Maxime and Moraux, Franck and Navatte, Patrick, On the Pricing and Early Call of American and Bermudan Callable Bonds (March 1, 2012). 29th International Conference of the French Finance Association (AFFI) 2012. Available at SSRN: https://ssrn.com/abstract=2084921 or http://dx.doi.org/10.2139/ssrn.2084921

Maxime Debon

Université d'Évry ( email )

Bd. François Mitterrand
F-91025 Evry Cedex, 91028
France

Franck Moraux (Contact Author)

Université de Rennes I and CREM ( email )

IAE de Rennes
11, rue Jean Macé
Rennes, 35000
France
+33 (0)2 23 23 78 08 (Phone)
+33 (0)2 23 23 78 00 (Fax)

HOME PAGE: http://perso.univ-rennes1.fr/franck.moraux/

Patrick Navatte

Université de Rennes I ( email )

7, Place Hoche
Institut de Gestion de Rennes
35065 Rennes Cedex
France
+33 2 9925 3545 (Phone)
+33 2 9938 8084 (Fax)

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