article 12-31-2014

Royce Premier Fund Manager Commentary

Fund Performance

Royce Premier Fund fell well short of our expectations in 2014. For the calendar year, the Fund was down 0.9%, significantly trailing its small-cap benchmark, the Russell 2000 Index, which gained 4.9% for the same period. The Fund handily outpaced the small-cap index in the year’s first half with a gain of 7.3% compared to 3.2% for the Russell 2000. But small-cap share prices corrected soon after making a high on July 3. Down phases typically result in the Fund holding its value more effectively than its benchmark, as it so often has through its history. The third quarter of 2014, however, offered an ill-timed exception. For the quarter as a whole, the Fund lost 8.6% versus 7.4% for the small-cap index.

The Russell 2000 then rebounded through much of the fourth quarter, when the Fund posted a comparably paltry 1.0% return while the Russell 2000 rose 9.7%. This was an unfortunate end to a frustrating final half. We were pleased, however, with longer-term results. Although the Fund trailed the small-cap index for the three- and five-year periods ended December 31, 2014, it did so with strong absolute returns that were in excess of both its own and its benchmark’s historical three- and five-year monthly rolling average returns (respective rolling returns of +11.8% versus +8.2% for the three-year span and +11.6% versus +7.6% for the five-year period). Premier also outperformed the Russell 2000 for the 10-, 15-, 20-year, and since inception (12/31/91) periods ended December 31, 2014. The Fund’s average annual total return for the since inception period was 12.0%, a long-term record in which we take great pride.

What Worked... And What Didn't

Energy was one of Premier’s best-performing sectors in the first half before oil prices abruptly plummeted and handed the Fund its largest net losses for the calendar year. An overweight in energy stocks—all of them in the equipment & services industry, and six of the seven not in the Russell 2000—did not help. Trican Well Service is an oilfield services company and the largest pressure pumping service provider in Canada. Over the last few years, its operations in the U.S. and other energy-rich spots around the world have been growing. Yet its ongoing operational successes meant little to anxious investors fleeing energy stocks in the second half. Much the same could be said for the Fund’s other holdings in the industry, most of which are also long-time holdings. Unit Corporation operates several businesses—it explores for oil and natural gas, acquires oil and gas properties, does contract drilling of onshore oil and natural gas wells, and performs gathering and processing of natural gas. Unit has shown over the years that it can be successful at all of them, and its steady execution has made its hard-to-pigeonhole business a Royce favorite. Albertabased Ensign Energy Services is a global provider of oilfield services such as contract drilling. Drill rig orders were drying up as the oil price plunge was driving its shares into the ground. Ever contrarian, we took an admittedly (and customarily) long-term view and held good-sized positions in each stock at year end in anticipation of an eventual recovery in energy prices.

Elsewhere in the portfolio, we modestly reduced our position in Nu Skin Enterprises. A maker and distributor of personal care products, Nu Skin endured a litany of challenges over the last 18 months, including the restructuring of its debt and trouble in its previously fast-growing—but more recently stagnating—Asian business. It has been handling its difficulties with success, and we think it can engineer a reversal when sales in China improve. We took the opposite tack by selling our shares of GrafTech International, which manufactures synthetic and natural graphite and carbon-based products used in steel production. Ongoing earnings disappointments, most recently resulting from graphite electrode order push outs, weakening international business, and poor sales tied to the Galaxy Samsung 5 phone pushed the stock down more than 50% in the third quarter.

On the positive side, we continued to be pleased with molecular diagnostic company Myriad Genetics. A specialist in genetic testing for cancer, its share price fell rapidly in the second half of 2013 once the Supreme Court held that human genes cannot be patented. The stock then began to get healthy in the first six months of 2014. The first-half acquisition of Crescendo Bioscience diversified Myriad’s already promising pipeline, and its genetic panel test—MyRisk—looked promising. Its stock stumbled in the fourth quarter when the MyRisk adoption proved more expensive than expected, causing sales deferrals and higher operating costs. Still, we remained confident enough in its long-term prospects for Myriad to be the Fund’s thirteenth-largest holding at the end of 2014.

Top Contributors to Performance
For 2014 (%)

Myriad Genetics 1.16
Jones Lang LaSalle 0.69
Zebra Technologies Cl. A 0.58
Strayer Education 0.52
IDEXX Laboratories 0.52
1 Includes dividends

Top Detractors from Performance
For 2014 (%)

Nu Skin Enterprises Cl. A -1.56
Trican Well Service -1.03
Unit Corporation -0.80
Ensign Energy Services -0.74
GrafTech International -0.59
1 Net of dividends

Current Positioning and Outlook

We reduced our exposure to Materials primarily by selling the Fund’s remaining precious metals & mining holdings. We remained overweight in Industrials and Information Technology, consistent with our view that we will eventually see an earnings-led market. We also had increased exposure to Consumer Discretionary, Financials, and Health Care companies by the end of 2014.

Average Annual Total Returns as of Quarter-End 12/31/14 (%)

Premier 1.01 -0.86 12.17 12.09 9.27 11.17 11.98 12.04 12/31/1991
Russell 2000 9.73 4.89 19.21 15.55 7.77 7.38 9.63 9.86 N/A
Annual Operating Expenses: 1.09%

* Not Annualized

Current month-end performance may be obtained at our Prices and Performance page.

Important Performance, Expense, and Disclosure Information

All performance information in this piece reflects past performance, is presented on a total return basis, reflects the reinvestment of distributions, and does not reflect the deduction of taxes that a shareholder would pay on fund distributions or the redemption of fund shares. Past performance is no guarantee of future results. Investment return and principal value of an investment will fluctuate, so that shares may be worth more or less than their original cost when redeemed. Shares redeemed within 30 days of purchase may be subject to a 1% redemption fee payable to the Fund, which is not reflected in the performance shown above; if it were, performance would be lower. Current month-end performance may be higher or lower than performance quoted and may be obtained here. All performance and risk information reflects results of the Investment Class (its oldest class). Operating expenses reflect the Fund’s total annual operating expenses for the Investment Class as of the Fund’s most current prospectus and include management fees and other expenses. Shares of Premier’s Service, Consultant, R, and K Classes bear an annual distribution expense that is not borne by the Investment Class. Regarding the "Top Contributors" and "Top Detractors" tables shown above, the sum of all contributors to, and all detractors from, performance for all securities in the portfolio would approximate the Fund’s performance for 2014.

The thoughts expressed in this piece concerning recent market movements and future prospects for small company stocks are solely the opinion of Royce at December 31, 2014, and, of course, historical market trends are not necessarily indicative of future market movements. Statements regarding the future prospects for particular securities held in the Funds' portfolios and Royce's investment intentions with respect to those securities reflect Royce's opinions as of December 31, 2014 and are subject to change at any time without notice. There can be no assurance that securities mentioned above will be included in any Royce-managed portfolio in the future.

This material is not authorized for distribution unless preceded or accompanied by a current prospectus. Please read the prospectus carefully before investing or sending money. The Fund invests primarily in small-cap stocks, which may involve considerably more risk than investing in larger-cap stocks. The Fund also generally invests a significant portion of its assets in a limited number of stocks, which may involve considerably more risk than more broadly diversified portfolio because a decline in the value of any one of these stocks would cause the Fund's overall value to decline to a greater degree. (Please see "Primary Risks for Fund Investors" in the prospectus.) The Fund may invest up to 25% of its net assets in foreign securities (measured at the time of investment), which may involve political, economic, currency, and other risks not encountered in U.S. investments. (Please see "Investing in Foreign Securities" in the prospectus.) Russell Investment Group is the source and owner of the trademarks, service marks, and copyrights related to the Russell Indexes. Russell® is a trademark of Russell Investment Group. The Russell 2000 Index is an unmanaged, capitalization-weighted index of domestic small-cap stocks. It measures the performance of the 2,000 smallest publicly traded U.S. companies in the Russell 3000 Index. The performance of an index does not represent exactly any particular investment, as you cannot invest directly in an index.



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