A put provision is a term that is included in various types of bond issues and provides a benefit for the bondholder that is somewhat like the call provision afforded to the bond issuer. This particular feature makes it possible for the bondholder to sell the bond back to the issuer, either on specific dates during the life of the bond, or if specified circumstances or events should occur at some point before the bond’s maturity date. Typically, the put provision will allow the bond to be sold back to the issuer at par, or the value of the bond as of the date of that sale.
The inclusion of a put provision allows investors to take advantage of certain events in the marketplace, such as a significant increase in the average rate of interest. This is particularly important if the bond issue carries a fixed interest rate that is at or near the average interest rate that prevailed when the bond was first issued. By having the ability to resell the bond to the issuer, the investor is able to enjoy whatever profits have been earned up to the date of the buyback, and use the proceeds from the transaction to purchase a new bond that offers a rate of interest that is in line with the current average.
By including a put provision in the terms and conditions associated with the bond, the issuer is essentially balancing out the ability for the bond to be called early. A call provision with a bond makes it possible for the issuer to retire the bond early on, basically returning the principal to the investor along with any interest that has accrued up to the date of the call. An issuer may choose to call a bond early for a number of reasons, including scenarios in which the rate of interest has dropped well below the rate that applies to the bond. By calling the bond, the issuer can settle with all the investors, retire the issue, and then create a new bond that carries an interest rate that is more in line with the most current average rates.
Investors may also have the ability to exercise a put provision for reasons other than a change in the prevailing interest rate. For example, the investor may be in need of capital to deal with an emergency situation. Rather than selling the bond at a discount to another investor, the bond is sold back to the issuer at par, a strategy that will likely net a greater return than simply selling the issue to a third party for a discounted price.
