Barbell

What is a Barbell?

The barbell in finance is known as an investment strategy that is primarily applied to a Portfolio based on a fixed Income. The term got its name as the investment strategy closely describes a barbell with Bonds weighted at both the ends of the maturity date.

Following this method, half of the portfolio comprises long-term bonds, and the other half has short-term bonds.

How Does it Work?

As mentioned above, a barbell strategy portfolio has short-term and long-term bonds with no transitional bonds. Short-term bonds are regarded as the ones with a maturity period of five years or less.

On the other hand, long-term bonds are the ones with a maturity period of ten years or more. Usually, long-term bonds pay higher results. But, all fixed-rate bonds have interest rate risk that occurs when Market interest rates are increasing in comparison to the fixed-rate security.

As a result of it, bondholders may earn a lower yield in comparison to the rising rate environment of the market.

Advantages of Barbell Strategy

• Decreases the risk of interest rate as short-term bonds can be easily reinvested in the rising rate environment
• Comprises long-term bonds that usually deliver high results in comparison with short-term bonds
• Provides diversified long-term and short-term maturities
• Can easily be customized to hold a mixture of bonds and equities

Disadvantages of Barbell Strategy

• Risk of interest rate can be there if long-term bonds pay lesser results in comparison to the market

• Long-term bonds restrict cash flow and tie funds to maturity
• The Inflation risk is there if prices increase at a faster rate than the results of the portfolio
• Mixing bonds and equities can increase Volatility and market risk

Example of Barbell Strategy

Let’s have a barbell example here. Assume that an Asset Allocation comprises 50% conservative investments and 50% stocks. Suppose that the market sentiment that turned positive in the short-term and there is a possibility that the market is at the commencement of an extensive Rally.

At the end of the barbell, investments in the equity perform well. As the rally continues and the market risk increases, the investor realizes that his gains are exposed to high-risk. The investor may sell 10% of the portion of the equity. Thus, the adjusted allocation will now be 40% stocks and 60% bonds.