The Barbell Method: Some Boom, Not Bust
The Barbell Method of Investing suggests that investors can prevent losses by being extremely safe with most of their assets, while being extremely risky with an inconsequential amount of money. Applied generally, it is a way to aggressively protect the downside while being exposed to the upside.
The chances of winning the lottery are 1 in *millions,* which is less likely than getting struck by lightning twice. But I still buy lottery tickets even when it doesn’t make mathematical sense. Why?
For $1, I get a chance **at a life-changing amount of money. If I spend $0 on the lottery, then I get zero exposure to this crazy game.
Who cares if I throw a few bucks away for entertainment value? But it’s a different story when the lowest-income households (under $30k/year) spend 13% of their annual incomes on lottery tickets (Bankrate). The people who need the money the most are blowing it on the highest risk, least likely gamble.
The barbell strategy explains why some people should play the lottery, and why others should drop the game.
Enter the Barbell Strategy
In weightlifting, weights are loaded at opposite ends of the bar, and not the middle.
Applied to the concept of investing, a Barbell strategy chooses investments at two ends of the extreme, while avoiding the “boring” middle.
Nassim Taleb popularized the Barbell approach in investing, suggesting that most of one’s wealth should sit in ultra-safe investments, while the remainder goes to high risk, high rewards investments.
This kind of portfolio might look like 90% allocation in cash, bonds and gold, and the remaining 10% on high growth stocks.
At first, I found this shocking. I’ve always heard the recommendation that young people should invest most of their money in stocks. When I first signed up for a 401k, the “risk” calculators would always recommend 90% in higher risk stocks and 10% in bonds.
The barbell allocation, in hindsight, might sound good to victims of the 2000 and 2008 financial crises. The “rational” thing to do after your 401k gets decimated is to keep buy back into the market when it’s low.
But we’re only human. Can we blame the average investor for locking in their losses out of fear for losing more? How can we apply the barbell method to manage risk?
My takeaway from the barbell method is less about a specific allocation and more about a perspective on risk. This strategy is rooted in a few ideas:
- Aggressively protect the downside: avoid financial ruin so that you can stay in the market longer. This means never investing more than you can afford to lose.
- Black Swans: Getting exposure to unexpected, big events with massive potential upside.
- Avoid the boring middle: The “medium-risk” options, in this strategy, are thought to either produce boring gains, or still too risky to have a risky of wiping out someone’s portfolio.
This is why I recommend the crypto-curious to buy a little, not a lot of Bitcoin. If Bitcoin goes to zero, then you can still sleep at night. But cryptocurrency is also a speculative investment that may double, triple, or 10x in value.
Applying the barbell approach to life
The Barbell strategy is not just for stocks, but applies to personal life too.
[LIFESTYLE]
Financial guru Ramit Sethi recommends that people aggressively cuts down on expenses you don’t care for, while spending lavishly on things you’re obsessed about. That might look like choosing to spend money on high-end coffee, while avoid dining out due to social pressure.
[DIETING]
The Slow Carb Diet recommends a low carb, high protein diet but encourages one “cheat meal” a week. This approach helped me pull off a successful diet for the first time in my life.
[FITNESS]
Contrast therapy involves more extreme hot/cold exposure. You may reap more health benefits by alternating between cold showers and hot saunas versus the lukewarm middle.
[SOCIAL LIFE]
Spend the majority of time with people you know and love, and once in a while do some deep networking to expose yourself to new ideas and connections.
The barbell approach feels like a more specific application of the 80/20 principle.
It fucks with our idea of balance, inviting us to wonder what a safe-yet-not-boring life looks like.
This was first posted on Oz’s blog: https://ozchen.com/barbell-method/. You can subscribe to get weekly insights about psychology + money by visiting the newsletter page below:
