Frequently Asked Questions - Portfolio Construction and Management

This varies widely based on the fund and circumstances. Some of the Litman Gregory Masters Funds managers have lower turnover than others. Sometimes market volatility impacts turnover either because rapid stock price spikes and/or dips change the relative appeal of certain stocks, or because in a declining market tax-motivated trading can increase turnover.

Litman Gregory Masters Equity’s annual turnover has ranged between 35% and 102% over the five years ended 12/31/08.

Litman Gregory Masters International’s annual turnover has ranged between 88% and 160% over the five years ended 12/31/08.

Litman Gregory Masters Funds Smaller Companies’ turnover has been as high as 149% during its life and we believe it is likely to be over 100% in most years.

The funds are not tax managed but we are tax-aware. Litman Gregory tracks individual tax lots and brings tax lot selling opportunities to each sub-advisor’s attention. Tax strategies that have been employed include:

  • Selling high loss lots and replacing them with new positions of equal conviction;
  • Doubling up on underwater positions and then selling the original loss lots after 31 days (to avoid a wash sale);
  • Selling loss lots and buying them back after 31 days (again to avoid loss lots).

In addition, we remind the stock pickers to avoid short-term capital gains if possible.

Though Litman Gregory Masters Funds is run in a tax-aware manner, there may be years when the fund has material distributions. Moreover, since the funds’ shareholder group includes non-taxable shareholder, tax strategies are employed only if the stock picker believes they won’t unduly favor one type of shareholder over another.

No. If they are buying or selling stocks for their own fund simultaneous to buys or sells for Litman Gregory Masters Funds, they would apply an allocation process that would be fairly applied. However, because of the high conviction level required in a Litman Gregory Masters Funds portfolio, there may be times when the sub-advisor sells a holding out of Litman Gregory Masters Funds that still qualifies as a hold in a more broadly diversified portfolio. Other times, because of the smaller asset base, there may be instances where the sub-advisor is able to buy a position for the Litman Gregory Masters Funds portfolio that is too small or not liquid enough for a larger portfolio.

Each individual sub-advisor directs their respective trades.

They do not. Each sub-advisor works autonomously on their portion of the overall Litman Gregory Masters Funds. The overall fund comprises the combination of each individual sub-portfolio.

The fund’s managers can short stocks though it is highly unlikely that they will do so. The fund can also transact in derivatives though the only derivatives transactions expected to be part of any of the funds’ ongoing strategy are foreign currency futures contracts for the sole purpose of hedging currency exposure when foreign stocks are held. Even in this case, it is unlikely that most foreign currency exposure will be hedged. In the case of Litman Gregory Masters Funds International Fund, some of the managers do not hedge their currencies while others will hedge, depending on the circumstances.

On rare occasions managers may write options as part of a tax management strategy. But other than currency hedging, derivatives are highly unlikely to be part of the funds’ holdings.

The presence of multiple sub-advisors reflecting different investment approaches as well as the quality of the sub-advisors contribute to diversification and risk control. In addition, Litman Gregory’s monitoring of the sub-advisors and overall fund portfolio also plays a role. Litman Gregory watches for unintended concentration in specific stocks (e.g. more than one sub-advisor owning the same stock resulting in a large weighting) and also pays attention to sector weights and other portfolio-level diversification issues. If in our judgment, overlapping positions result in a level of exposure that we don’t believe is prudent for the overall fund we will step in and work with the sub-advisors to reduce the exposure. As of early 2008, this has only happened once since the 12/31/96 launch of the first Litman Gregory Masters Funds.

It is important to remember that each Litman Gregory Masters Funds is subject to equity-market risk and may at times lose more than its benchmarks or peer-group during a market decline.

The actual allocations will naturally drift as a result of each manager’s individual performance, so we allocate each day’s cash inflows based on how far each sub-advisor is from their target allocations. Thus, the sub-advisor who is furthest below his or her allocation will get the most money; the sub-advisor who is next furthest below will get the second largest amount and so forth.

If the sub-advisors have drifted from their allocations based on their performance relative to each other and this can’t be corrected from new cash inflows we will consider rebalancing. However, the allocation will have to drift materially before we would rebalance. Typically we wouldn’t rebalance unless one or more sub-advisor’s allocations were at least two percentage points off target, and even then we would only move cash reserves if available. If a rebalancing required stock to be sold we would consider this only if the sub-advisor was at least four percentage points off target, and even then we reserve the right to use our judgment. We have rebalanced a number of times in several of the Litman Gregory Masters Funds but we have never had to force stock sales to do so.

Typically the allocations are equal. However, our desire to limit small-cap exposure at the overall fund level may lead us to allocate less to dedicated small-cap managers in certain funds. And our desire to maintain a style-neutral portfolio in certain funds may also lead the allocations to specific sub-advisors to differ.

Generally, the target allocation at the time each fund is launched is intended to be permanent. Although we do not actively manage the allocations, we have made changes to maintain the fund’s style neutrality after making a manager change.

Please refer to the specific fund pages (Equity, International, Smaller Companies) for target manager allocations.

The number of sub-advisors is a function of the type of fund and the number of highly skilled managers we can identify as potential sub-advisors. Generally we expect to have at least three sub-advisors and preferably four to seven. The higher end would typically be for funds with multiple styles (e.g., Litman Gregory Masters Funds Equity) while the lower end would be single style funds.

We will not add a manager if we believe the new manager is not at least as skilled as the existing sub-advisors. We may also consider the distinctive nature of a particular stock picker’s investment approach. We are more likely to add a new sub-advisor if we believe they will add material diversification to the overall portfolio.

With respect to the blend of styles, unless it is a style-specific fund, we seek to keep each Litman Gregory Masters Funds roughly style-neutral. This can be accomplished by various combinations of value, growth and blend managers.