Economics are a main factor in issuers' increased likelihood of calling bonds with higher coupons, better credit quality and larger deal sizes.
Issuers will generally call bonds when doing so creates an economic benefit, most commonly by reducing future debt-service costs through refunding, said Kevin McGuigan, director at Municipal Market Analytics.
"Whether bonds are ultimately called depends on the issuer's refunding economics, which can vary based on the amount outstanding, credit quality, prevailing interest rates, transaction costs, market access and the issuer's debt-management capabilities," he said.
Simple economics, though, is not always the motivation: Structural efficiencies, changes in the capital plan, taking advantage of improving credit conditions, or unlocking reserves are other reasons, said Jeff Lipton, The Bond Buyer's market intelligence strategist.
Since 2020, callable bonds rated AA or better were called at a rate ranging from 32% for 0.1%-2% coupon bonds, to 90% for 5s and 99% for 5%-plus coupons. A-or-better rated bonds were called at a pace of 30% for 0.1%-2% coupons, 88% for 5s and 97% for 5%-plus coupons.
BBB bonds were called 5% of the time for 0.1%-2% coupons, to 71% for 5s and 87% for 5%-plus coupons, according to J.P. Morgan data.
The higher-coupon bonds stand a better chance of being called/refunded since "issuers can retire high-coupon debt when interest rates fall, reducing their interest expenses," said Kim Olsan, senior fixed income portfolio manager at NewSquare Capital.
For instance, in 2011, the 10-year MMD average rate was between 2.50% and 3.00% for most of the year. By 2020 and 2021, the 10-year MMD fell below 1.00%. Bonds issued in 2011 with a 10-year call feature could be called and save the issuer an implied 150-plus basis points, she said.
And for most of 2013, the 30-year MMD was above 4.00%. By early 2023, the 30-year had dropped to around 3.50%. Bonds issued in 2013 could be called and reissued much lower, Olsan said.
As for the ratings, similarity between AA-rated and A-rated 5% or higher coupons getting called more frequently stands to reason, as those issuers usually have balance sheets that provide funds to exercise calls, while the BBB universe of issuers is "often project-related debt that may or may not enjoy operating surpluses to exercise calls," Olsan said.
Furthermore, higher-quality issuers have a greater chance of being able to refinance at economically attractive rates, while lower-rated issuers "sometimes have to price more defensively and there is greater uncertainty over the rates they will be able to secure in refinancing, which may make the threshold higher for forecasted cost savings that would actually trigger a refunding," MMA's McGuigan said.
Additionally, larger deal sizes, such as transactions exceeding $500 million, "demonstrate a pronounced tendency for issuers to call their existing callable bonds more regularly," said J.P. Morgan strategists.
So far this year, the pace of calls for deals above $500 million is around 74%. For deals between $200 million and $500 million, the pace of calls is at 58%, while it is 51% for deals ranging between $100 million and $200 million. The pace of calls is at 42% in 2026 for deals in the $50 million to $100 million range, and 26% so far this year for deals under $50 million, J.P. Morgan data shows.
"Larger deals are typically issued by larger, repeat borrowers for whom exercising calls and refinancing debt often makes more economic sense," McGuigan said.
Larger issuers can usually justify "refunding transaction costs with a smaller improvement in rates, particularly because the potential dollar savings increase with the amount of debt being refinanced," he said.
Their bonds are characteristically more liquid, providing greater price discovery and making it easier for issuers and their advisors to assess potential cost savings, he said.
Some issuers also look at nominal savings. "If you're talking about a 4% savings threshold on a $40 million issuance, and you're talking about 3% savings on a billion-dollar issuance, the nominal savings, even though the percentage is 100 basis points less, is going to be millions of dollars more," said Peter Delahunt, managing director and head of the municipal bond department at StoneX.
The large issuance leads to a lower percentage threshold for calls, knowing the nominal number is going to be that much larger, he said.
The economics of why some bonds are called more frequently than others can spill over into investor preferences, which can vary in their approach to redemptions.
"Some investors, it works out better for their strategy or their plan and others it can be a problem because of the change in those dates can … result in that portfolio extending or shortening in duration," said Tim Iltz, fixed income credit and market analyst at HJ Sims.
This change in portfolio duration could happen at the wrong time. If there is a large change in interest rates, and "you have a longer call period on your bonds, you can have a little bit more protection there from those changes in interest rates, and so it depends upon what the issuer or the investor is trying to accomplish," he said.
Most investors want to have a consistent experience, and "so having that call protection in terms of a longer call date or bonds that might have different coupon characteristics that would keep that bond outstanding longer, those investors will be better served," Iltz noted.
