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What Is a Letter Bond?

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  • Written By: Mary McMahon
  • Edited By: Shereen Skola
  • Last Modified Date: 21 April 2018
  • Copyright Protected:
    2003-2018
    Conjecture Corporation
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A letter bond is a debt instrument with restrictions attached that cannot be sold to members of the general public. Also called letter securities, these are transferred directly from the issuer to a private party who agrees to hold them for a set period of time as an investment. They cannot be transferred again without taking steps to remove the restrictions. Private sales of this nature can provide more flexibility with financing and investment activities.

Companies issue bonds when they need to raise capital. Buyers pay a set amount for the bond in exchange for an agreed-upon interest rate. This may be paid out over time, or the buyer could receive a lump payment when the bond matures, including the principal and the accrued interest. With a letter bond, the debt is not sold on the open market and people cannot buy it publicly as they can with many other investments.

Buyers make private arrangements with sellers and file documentation with regulators regarding the sale. They agree to hold the letter bond for a set period of time, usually at least six months. If investors decide to sell their bonds, they need to have the restriction lifted, which can require getting permission from the issuer and working with a transfer agent. The procedure depends on the nation, as different regulatory agencies may have their own requirements for handling letter bonds.

Private investments of this nature may provide access to opportunities that are not available to the general public. These can include chances to participate in startups, new companies, and privately held firms. The disadvantage is that the investment has low liquidity. Bondholders cannot turn around and sell their investments to back out of the investment position if they need money or have concerns about the company’s ability to repay. Consequently, it’s important to only buy a letter bond if other sources of liquidity are available for emergencies and the company appears to be a sound investment.

If this investment tool would be a good choice, it’s advisable to keep detailed records. This includes copies of the letter bond documentation, including the paperwork from the issuer as well as copies of the forms sent to regulators. Questions about ownership, transfers, and other issues can be resolved with accurate records. Maintaining duplicates in different locations can be especially useful in the event of theft or natural disaster when one set of records may not be accessible and bondholders want to provide proof of ownership.

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