RBC Dominion Securities
cayman captive 2019 41
adjust upwards with prevailing rates. While not a perfect guard against
poor market performance, floating rate bonds can be expected to
perform better than typical fixed rate investments in a down market.
A barbell strategy
One way to lock in alluring longer-term rates and retain the flexibility to
reinvest if rates move upwards is to employ a portfolio strategy called a
“barbell”. This strategy is worthy of consideration for your captive (see box).
Given current market conditions at the time of print, we see value in a
barbell strategy—focusing on the short end (one to five years) and the
longer end ( more than 10 years). In our view, uncertainty is highest in
the intermediate part of the curve, but we expect the 30-year yield to stay
relatively anchored around current levels, and are thus comfortable with
the proposition of reinvesting at higher yields should the Fed maintain
the march to higher rates, or the chance that bond prices rally should
the Fed ease back in the face of flat yield curves.
Ultimately there is no right or wrong, just consequences of your decision.
We recommend being flexible and open-minded to different approaches
in light of today’s rate environment.
We suggest you review your strategy with your investment advisor
to analyse a comprehensive set of outcomes to ensure the strategy is
aligned with your investment policy.
Stephen Price is vice president & portfolio manager, RBC Dominion
Securities. He can be contacted at: firstname.lastname@example.org
This commentary is based on information that is believed to be accurate at the time of
writing, and is subject to change. All opinions and estimates contained in this report
constitute RBC Dominion Securities Global judgement as of the date of this report,
are subject to change without notice and are provided in good faith but without legal
responsibility. Interest rates, market conditions and other investment factors are subject to
change. Past performance may not be repeated. The information provided is intended only
to illustrate certain historical returns and is not intended to reflect future values or returns.
The information contained in this article is not intended as a recommendation directed
to a particular investor or class of investors and is not intended as a recommendation in
view of the particular circumstances of a specific investor, class of investors or a specific
portfolio. You should not take any action with respect to any securities or investment
strategy mentioned in this article without first consulting your own investment advisor in
order to ascertain whether the securities or investment strategy mentioned are suitable
for your circumstances. This article is not and under no circumstances is to be construed
as an offer to sell or the solicitation of an offer to buy any securities. It is furnished on
the basis and understanding that neither RBC Dominion Securities nor its employees,
agents, or information suppliers is to be under any responsibility or liability whatsoever
in respect thereof. This information is not investment advice and should be used only
in conjunction with a discussion with your RBC Dominion Securities Global investment
advisor. This will ensure that your own circumstances have been considered properly
and that any action is taken based upon the latest available information. The strategies
and advice in this article are provided for general guidance. Readers should consult their
own investment advisor when planning to implement a strategy. Interest rates, market
conditions, special offers, tax rulings, and other investment factors are subject to change.
RBC Dominion Securities Global is a foreign affiliate of RBC Dominion Securities. RBC
Dominion Securities Global is regulated by the Cayman Islands Monetary Authority.
RBC Dominion Securities Global is a member company of RBC Wealth Management, a
business segment of Royal Bank of Canada.
The barbell strategy
A barbell strategy entails the concurrent purchase of securities
from both the short and long end of the yield curve with similar
amounts of money, and nothing invested in the middle.
It is a way to gain exposure to a particular maturity length without
having to invest your entire portfolio in the same segment of the
market. It is so named since the portfolio is heavily weighted on
It’s important to keep in mind that a bond barbell is an active
strategy that requires monitoring since the short-term securities
will need to be rolled into new issues on a frequent basis. Also,
most investors approach the longer-term side of the barbell by
buying new securities to replace the existing issues as their
Naturally, the current yield of the new securities, as well as the
size of the gain or loss the investor has in the existing bonds, will
play a role in the decision.
The potential benefits of a barbell strategy are:
• Greater diversification than a bullet strategy;
• The potential to achieve higher yields than would be possible
through a bulleted approach;
• Less risk that falling rates will force the investor to reinvest
their funds at lower rates when their bonds mature;
• If rates rise, the investor will have the opportunity to reinvest the
proceeds of the shorter-term securities at the higher rate; and
• The fact that the short-term bonds mature frequently provides the
investor with the liquidity and flexibility to deal with emergencies.
The primary risk of this approach lies in the longer-term end
of the barbell. Long-term bonds tend to be much more volatile
than their short-term counterparts, so there is the potential
for capital losses, if rates rise (as prices fall), and the investor
elects to sell the bonds prior to their maturity. If the investor has
the ability to hold the bonds until they mature, the intervening
fluctuations won’t have a negative impact.
The worst-case scenario for the barbell is a “steepening yield
curve”. This simply means that long-term bond yields are rising
(and prices falling) faster than the yields on short-term bonds. In
this situation, the value of the long end of the barbell declines,
yet the investor still may be forced to reinvest the proceeds of
the shorter end into low-yielding bonds.
The opposite of the steepening yield curve is the flattening yield
curve, where yields on shorter-term bonds rise faster than the
yields on their longer-term counterparts. This situation is more
favourable for the barbell strategy.