PORTFOLIO POWER BARBELL STRUCTURE MAY BE THE RIGHT REGIMEN BY JIM REBER, PRESIDENT AND CEO, ICBA SECURITIES As yields continue to set cyclical highs during 2023, many community bankers have asked me questions about what their next best purchase should be. Some of them have been surprised to hear an answer that I’ve been giving for the better part of this decade, even though absolute yields and the shape of the curve look nothing like, say, 2015. Since the difference in yields between short maturities and longer ones is still upside down (i.e., the curve is inverted), most bond analysts, economists and the Federal Reserve itself are predicting that we’ll see some economic slowdown, cooling of inflation and eventually some rate cuts. (Although to be sure, they differ greatly as to the timing.) If and when we see a normalization to the shape of the curve, a portfolio structure that would perform well is a “barbell.” Now, let’s review the structure and the advantages of such an exercise for your investment portfolio. REPETITION AND RESISTANCE The barbell is simple to build and easy to evaluate later. It just requires an investor to define what it considers to be suitable short-term and long-term investments. Of course, community bankers have differing opinions on what counts as a long-term investment, but generally speaking, those with durations of five years and greater are considered to be on the high end of the pricerisk scale. Once you’ve identified the target investments, the portfolio manager will simply purchase roughly similar amounts of both and keep the weightings balanced through ongoing monitoring. By having a collection of bonds that are heavy on both ends of the maturity spectrum, you’ve successfully built a barbell. CLASSIC STRUCTURE Among the bonds that meet community banks’ criteria of liquidity and credit quality are those issued by the Small Business Administration (SBA). They are direct obligations of Uncle Sam, and new issue volumes continue to set records, so the SBA market continues to broaden and deepen. Two of the more visible products are 7(a) pools, which are true floating rate instruments, and Development Company Participation Certificates (DCPCs), which are fixed rate pools with long average lives. It makes logistical sense to consider them together for a barbell. For one thing, credit quality is unsurpassed. For another, one would be hard-pressed to find two bonds with more disparate price-risk profiles. For still another, we can address premium risk that attaches to the 7(a)s by pairing them with a DCPC that is available at a price near GUEST ARTICLE At this point in the rate cycle, both ends of the barbell yield much more than they would have a year ago, so an investor today has a big head start over 2022. 14 Community Banker
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