First Quarter: What We Did.

I often get questions about some of the actual processes and portfolio management techniques we use when managing client portfolios, so we're going to try a few new things.   I'm going to spend some time  going forward on peeling back the onion on some of the processes we use in at Lumen Capital Management, LLC.  I'm going to start this off today with a general discussion of some of the changes we made in the first quarter of 2014.

First the ground rules:

1.  We will generally not discuss specific names of securities we bought or sold during the quarter.   Where we specifically do discuss equities or ETFs, we give a disclosure about what we own.  We don't want to ever be in a position where it looks like we are touting our positions.  If you want to know what our portfolios look like then you need to hire us.

2.  The time period we are currently discussing was the first quarter of 2014.  No guarantees that our portfolios look like this today or will by the end of the quarter.  

3.  These are generalized descriptions of changes that we've made during the quarter.  While these descriptions are in general based on actual changes we've made in accounts, individual portfolios may look different depending on the make-up of a client's portfolios.  Some of the reasons that these changes may not have been made on an individualized basis are:  client risk/reward parameters, cash positions in the portfolio, portfolio strategies in which the client is involved, tax considerations, position sizing and original composition of the portfolio.  There may be other criteria that changes weren't made but these are the main reasons.  

4.  No guarantees that any of these new purchases will turn out to be profitable and no guarantee either explicit or implied that any of the sales we made were done so at a profit unless we specifically state as such.  

Now as to what we did.

One of the principal things that we did was to rebalance portfolios during the quarter.  We have had some positions that we felt had become to big relative to our benchmarks in client accounts in 2013.  We waited until this year to make those changes because we wanted to avoid the tax consequences in 2013.  Also our proprietary money flow analysis indicated a higher probability that stocks would continue to move higher in the last few weeks of 2013.   Some of the money we raised has been allocated to cash instead of  being  redeployed back into the equity markets.  In general we went from a mid-single digit cash position in portfolios at the end of 2013 to cash positions that are currently in general between 10-15% of client accounts.  

Two sectors where we either initiated or added to positions was to securities related to real estate investment trusts and to emerging markets.  In regards to real estate we felt that their relative performance to other asset classes in 2013 and their yields made them attractive investments.  Also money flows indicated a lower risk entry level when we made these purchases.  Regarding emerging markets, I've felt going back to last summer  and since the fall that emerging markets were cheap relative to other asset sectors.  That view until recently was not shared by the rest of the investment world as these sector was one of the worst performers in 2013.  However, our view is that much of the bad news overseas has been priced into these securities and the securities we purchased for clients also have attractive yields.  Depending on the client account, some of these emerging market purchases also included exposure to individual countries that we find attractive.  Some of the purchase were new positions, some were adding to client accounts and some transactions were meant to swap securities in order to use some tax harvesting strategies.

On a valuation basis we reduced our exposure to biotechnology.  We still own positions here in some accounts but pared back given the move higher in the quarter.  Note that these positions were and are held only in accounts exposed to our most aggressive strategies.

We also used the decline and subsequent rally in February to exchange legacy ETF positions in sectors we find attractive.  I will explain.  When we began our ETF strategies back in the middle part of the past decade most ETFs beyond those exposed to major indices had an expense ratio of between .50 and .75%.  These seems expensive today but was a bargain back then compared to what mutual funds charged for the same exposure.  Since then both Vanguard and State Street have come out with sector funds where the costs are significantly lower for virtually the same equity exposure.  In some cases today we can save nearly a third of one percent by simply switching securities from one ETF family to the other.  This may seem small in relation to one security but it can really add up over time in regards to an overall portfolio where securities may be held for multiple years.  We have made these switches in new purchases over the past few years but have held off on changing legacy positions owing to issues such as taxes, where we are in the investment cycle and opportunity via money flows.  In February, when the market pulled back around 6%, we saw an opportunity to exchange one of these funds as the sector in which it traded became very oversold.  In essence we first purchased the corresponding lower cost ETF and held it till we found a more advantageous time to make a sale.    There is still the issue of taxes but the client now on a going forward basis is receiving the advantage of lower cost in the fund.  There are a few other ETFs in our portfolios that we will try to change in this manner if we get the right opportunity in 2014.

That's basically what we did.  For the most part we've been otherwise content with our different strategies portfolio' construction.  In accordance with the playbook and game plan we have an idea where we'd raise the next tranche of cash should the need arise and have identified levels where we'd be buyers of securities we find attractive  at this point but for the most part right now we are content to wait.