Hallmarks of Our Approach


Focus on risk

  • We believe that paying attention to risk does not diminish long-term returns

Absolute value orientation

  • Use a business buyer’s orientation as opposed to a “Wall Street” approach

Long-term investment horizon

  • Seek to exploit inefficiencies created by short-term price volatility

Bottom-up approach

  • Focus on stock selection

Benchmark and style agnostic

  • Select securities from the entire small-cap universe, not just the “value” portion
  • Select securities without regard to benchmark weightings

Deep domain knowledge of investment universe

  • Previously owned companies represent a significant source of ideas

Consistent application

  • Apply investment approach regardless of market movements and trends

Investment Universe

Our universe consists of three markets: micro-cap, small-cap, and mid-cap companies. The Funds may also invest in foreign securities to varying degrees.

MARKET
CAP
MARKET
CAP
RANGE
NUMBER
OF
COMPANIES
TOTAL
MARKET
CAP ($)
U.S.
Micro-Cap
up to $750M 3,264 550B
U.S.
Small-Cap
between $750M and $2.5B 886 1.2T
U.S.
Mid-Cap
between $2.5B and $15B 886 5.2T
U.S.
Large-Cap
more than $15B 321 17.4T
Non-U.S.
Micro-Cap
up to $750M 19,879 3.1T
Non-U.S.
Small-Cap
between $750M and $2.5B 3,516 4.7T
Non-U.S.
Mid-Cap
between $2.5B and $15B 1,946 11.2T
Non-U.S.
Large-Cap
more than $15B 457 19.2T

U.S. Micro-Cap

market cap
up to $750M

3,264 companies
$550B total cap

U.S. Small-Cap

market cap
between $750M and $2.5B

886 companies
$1.2T total cap

U.S. Mid-Cap 

market cap
between $2.5B and $15B

886 companies
$5.2T total cap

U.S. Large-Cap

market cap
more than $15B

321 companies
$17.4T total cap
Micro-Caps - Less liquidity, more volatility, greater return potential.
Small-Caps - Greater liquidity, more research coverage than micro-caps, greater competition.

Non-U.S.
Micro-Cap

market cap
up to $750M

19,879 companies
$3.1T total cap

Non-U.S.
Small-Cap

market cap
between $750M and $2.5B

3,516 companies
$4.7T total cap

Non-U.S.
Mid-Cap

market cap
between $2.5B and $15B

1,946 companies
$11.2T total cap

Non-U.S.
Large-Cap

market cap
more than $15B

457 companies
$19.2T total cap
Non-U.S. Micro-Caps - Less liquidity, more volatility, greater return potential.
Non-U.S. Small-Caps - Greater liquidity, more research coverage than micro-caps, greater competition.

 

Source: Reuters as of 9/30/14

Portfolio Approach

Our portfolio managers possess broad latitude within our investment universe, though in general they seek a combination of quality—measured by the balance sheet and returns on invested capital—and valuation.

Portfolios that invest more heavily in micro-caps are in general more broadly diversified due to liquidity considerations; those that invest primarily in the upper end of the small-cap universe tend to be more focused. In addition, we seek to take advantage of pockets of opportunity, such as dividend-paying companies, low-priced companies, turnarounds, special situations, etc., within each universe.

Broadly Diversified

A broadly diversified portfolio at Royce is one that generally holds more than 100 securities and whose top positions generally do not exceed 2% of net assets.

Focused

A focused portfolio at Royce is one that either (i) generally invests in no more than 100 companies, and whose top positions generally exceed 2% of net assets, or (ii) invests primarily in a single sector.

Stock Selection

Seek companies with strong balance sheets

  • Low financial leverage – Assets/Equity ratio
  • High operating leverage

Focus on returns on capital

  • Above-average returns over normalized operating periods
  • Examine ROIC (Return on Invested Capital), ROA (Return on Assets)
  • Develop enterprise conviction
  • Meet with senior management
  • Examine operating dynamics and sustainability of business model

Buy/Sell Discipline

Generally we seek to purchase companies trading at discounts of at least 30% and preferably 50% to our estimate of their value as businesses. We will generally sell a position when the company reaches our estimate of its value.

  • We are price-driven, not position-driven
  • We generally set buy and sell targets for positions
  • Cash is a byproduct of our investment process
  • Utilize cap rate pricing model

Risk Management

Our value investing approach employs a rational decision-making process that strives to compound wealth while seeking to manage risk over the long term. From our experience, paying attention to risk does not diminish long-term returns.

Our basic belief is that the price one pays for an investment makes a significant difference in the long-term returns that an investor receives. As value-oriented investors, we take a contrary view to the often emotional process of buying and selling stocks. We seek to mitigate risk at times when others are ignoring it and to pursue risk opportunities at times when others may avoid them in an attempt to capitalize on valuation discrepancies.

It's important for us to attempt to select companies that provide a "margin of safety." In other words, we assess how much risk we are taking in order to achieve our desired reward. Our methods concentrate on managing risk in three ways:

Business Risk

To manage business risk, we generally look for companies that have strong balance sheets, high internal rates of return, and excess cash flow. Our estimate of a company's ability to withstand economic adversity is a significant measure of its financial good health. We want to know what the potential risk is of "permanent capital impairment," i.e., the likelihood of a business not being able to generate sustainable returns on capital or, even worse, becoming insolvent.

Valuation Risk

We attempt to manage valuation (or price) risk by buying stocks that are trading at what we believe are bargain prices. The price we pay for a company must be significantly lower than our estimate of its current worth.

Portfolio Risk

We seek to manage portfolio risk by owning a wide variety of stocks across many sectors and industries.

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