Barbells are not just for weightlifters

If you think a barbell is just a tool for building muscles, think again. Barbell also refers to a strategy that bond investors can exercise (pun intended) to protect their portfolios from the effects of interest rates and potentially improve their returns.

The barbell strategy, when applied to bond investing, focuses on the maturities of the bonds in a portfolio. Unlike the bond laddering technique that consists of a portfolio that has bonds maturing at regular intervals, the barbell approach focuses on bonds with maturity dates at opposite ends of the spectrum- either very near, or at a very distant date in the future.

The result is a portfolio with very long- and short-duration bonds, but no intermediate-duration bonds. For example, a barbell investor could invest half their portfolio in bonds with five-year maturities and the other half in bonds with 15-year maturities. The barbell strategy is so named because the portfolio is heavily weighted on two sides just like a barbell.

Advantages

Barbell investing can provide opportunities in both rising and declining interest rate environments. When rates rise, the short duration bonds have the potential to be reinvested at the new higher rates when they mature. If interest rates decrease, the bonds at the long-term end of the barbell come to the rescue because they are locked in at higher interest rates. In the latter scenario there is also the potential for capital gain, as those higher rate long term bonds become more attractive to investors, resulting in price appreciation. The optimal time for bond investors to implement the barbell strategy is when there are large gaps between short- and long-term bond yields

Disadvantages

A bond barbell is an active strategy that requires monitoring and frequent action since the short-term securities will need to be rolled into new issues on a frequent basis, and the long-term maturities will shorten and no longer be ‘long-term’.

Another potential drawback of a barbell strategy is that an investor misses the opportunity to use intermediate-term bonds in their portfolio, betting that returns over time will be higher without these mid-range bonds.

Conclusion

The barbell strategy is not appropriate for everyone. But if you employ this strategy, it’s all about finding the right balance. Short-term bonds pay less but mature sooner. Long-term bonds pay more but have greater interest-rate risk. A bond barbell does not need to be equally weighted on both sides- it can be heavier on one side depending on an investor’s outlook and yield requirements. As always, work with your financial advisor to determine the right strategy for you.

Toni-Ann Neita-Elliott, CFP is the Vice President, Sales & Marketing at Sterling Asset Management. Sterling provides financial advice and instruments in U.S. dollars and other hard currencies to the corporate, individual and institutional investor. Visit our website at www.sterling.com.jm   

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