Putting it Off: the Deferment Period

by Investing School on November 28, 2011

Putting things off may seem like a bad thing, but that isn’t always the case. Many securities are sold with a built in deferment period. During that time the security cannot be called by the issuers. Some securities have a call option which allows the issuing party to purchase back the instrument at a preset price. During the deferment period, they can’t. This provides the purchasers with a degree of certainty.

The deferment period is predetermined upon issuance, by the underwriter as well as the issuer. Many municipal bonds are issued with a deferment period of 10 years, and are callable after that time frame. In Europe options are often deferred for their lifespan, and are only callable after they have expired.
The point behind the deferment period is that interest payments are guaranteed during the period in which the bonds are protected. After that period expires, the issuer is free to return the initially invested principal and cease interest payments. Also referred to as the cushion period, this period protects holders from dropping interest rates. This allows investors some security regarding their expected income.

It is also common to defer repayment of student loans and grants until after the student in question graduates or is no longer a full time student. With a government subsidized loan that can be particularly beneficial since interest doesn’t begin to accrue until after studies are completed. Deferment periods are also used by insurance companies which will refuse payment for illnesses which crop up during the early months of a policy. Longer deferment periods can result in lower premiums.

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