Buying & Selling Bonds
Swapping for Increased Call Protection
Swaps may achieve other investment objectives, such as building a more diversified portfolio, or establishing better call protection. Call protection is useful for reducing the risk of reinvestment at lower rates, which may occur if an issuer retires, calls or pre-refunds its bonds early. Call protection swaps are particularly advantageous in a declining interest rate environment. For example, you could sell a bond with a short call, e.g., five years, and purchase a bond with 10 years of call protection. This will enable you to lock in your coupon for an additional five years and not worry about losing your higher-coupon bonds in the near future. You may have to sacrifice yield in exchange for the stronger call protection.