Municipal Bond Forum
Uncovering value through close inspection
Q
Please explain why one would pay 102 for a bond that is callable in one month at 100? I requested from you bonds in the two to 10-year range, A-rated or above and no “AMT” features. This hardly fits the bill.
A
James A. Klotz responds:
Great question, particularly in light of the fact that if the bonds to which you refer (description below) are called on their next call date, the result would be a whopping NEGATIVE return of 22.325%!
Here’s the security description:
Eastern CT Res. Recovery Auth. Solid Waste Rev. “AMT”
Rating: BBB (S&P). Interest Rate: 5.50%. Maturity: 01/01/20. Callable: 04/07/07@100. Yield to Call: -22.325%. Yield to Maturity: 5.282%. Current Yield: 5.392%. Price: 102.00. Form: Book-Entry.
Generally speaking, we would advise investors to avoid this type of situation unless they possess specific information regarding the likelihood of the bonds being called.
These bonds were issued in 1993. The first call date was in January 2003. Our research reflects that no bonds have ever been called by this authority, nor have they accumulated sufficient funds to do so in the near future.
Even so, why take the risk? Here’s why: If the bonds are called just one year after the first call (04/09/08 vs. 04/09/07), the yield to the investor would be 3.58% tax-free. Not great, but not too bad for one year.
If the bonds are called after two years (04/07/09), the yield jumps to 4.47%, which provides the investor with considerably more yield than currently available on bonds maturing in 2009.
If the investor keeps the bond for three years (04/07/10), his yield will be 4.80%! At this point, he has received a return on his money that exceeds the return on 30-year bonds.
And there is no reason to believe the bonds will be called. If they reach maturity the investor enjoys a yield to maturity of approximately 5.30% and a current yield of 5.40%.
As municipal bond specialists, we earn our reputation by doing the research that uncovers these special situations for our clients, providing them with unusual value in their tax-free bond investments.
Start here.
Do you have specific criteria for bonds you’re looking for? Let us know and we’ll e-mail you bonds that fit your needs. There is no charge for this service.
This report is produced solely for informational purposes and is not to be construed as a solicitation or an offer to buy or sell any securities or related financial instruments. This report is based on information obtained from sources believed to be reliable but no independent verification has been made, nor is its accuracy or completeness guaranteed.