Callable Bond
A bond the issuer can redeem early at a set call price, usually after rates fall — capping the holder's upside and adding reinvestment risk.
A callable bond gives the issuer the right — but not the obligation — to repay the bond before its stated maturity, at a predefined call price and call dates. Issuers exercise this option when interest rates have fallen, letting them retire expensive debt and refinance at a lower coupon, much like a homeowner refinancing a mortgage.
The call feature works against the bondholder. When rates drop, a normal bond rallies; a callable bond's price appreciation is capped near the call price because the market knows it may be redeemed. The investor then faces reinvestment risk — the called principal must be redeployed at the new, lower rates. To compensate, callable bonds offer higher yields than otherwise-identical non-callable bonds.
The practical takeaway: never evaluate a callable bond on yield-to-maturity alone. Compute the yield-to-call for each call date and use the yield-to-worst — the lowest of those outcomes — as the true expected return.