article 06-30-2015

Royce Small-Cap Value Fund Manager Commentary

The portfolio is positioned for a market that more consistently rewards quality companies with low leverage and high returns on invested capital.

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Fund Performance

Royce Small-Cap Value Fund (formerly Royce Value Fund) advanced 1.0% for the year-to-date period ended June 30, 2015 compared to a gain of 4.8% for its small-cap benchmark, the Russell 2000 Index, for the same period. Small-cap share prices began the year trending downward, and Small-Cap Value felt the brunt of the bearish move in January more than the small-cap index. While the Fund outpaced its benchmark in both February and March as the market rebounded, it could not overtake its index through the year's first three months. For the first quarter as a whole, Small-Cap Value gained 3.3% versus 4.3% for the Russell 2000.

Small-Cap Value beat the Russell 2000 in the bearish climate of April only to lag when small-cap stocks recovered in May. June was another matter altogether—the Fund was showing a respectable gain prior to June 29, when the Greek default sent shockwaves through the global markets and undid four weeks' worth of positive performance for the portfolio. For the second quarter, the Fund was down 2.2% while its benchmark was up 0.4%. There was more to be encouraged by in the Fund's longer-term results. Small-Cap Value Fund outperformed the Russell 2000 for the since inception (6/14/01) period ended June 30, 2015. The Fund's average annual total return since inception was 10.5%.

What Worked... And What Didn't

A portion of Small-Cap Value's relative disadvantage in the first half can be explained by noting where we were not invested—which would be in red-hot biotech stocks—and where we had a less costly but still detrimental overweight—which would be in Energy, which posted the largest net losses in the first half (as it did in 2014), followed by Industrials. The Information Technology sector was an interesting mix of the good and the bad and showed a very modest net loss at the end of June.

Consumer Discretionary led on the positive side by an impressive margin, more than tripling the respective gain of each of the portfolio's next three top contributors—Consumer Staples, Materials, and Financials—which posted nearly identical net contributions. The Fund's top performer in the first half was Steve Madden, a designer and seller of name brand and private label footwear for women, men, and children. This is a cyclical business that we have liked for many years. Its shares often move as investors try to predict consumer cravings for fashionables wares, and a decidedly positive estimate was firmly in evidence during 2015's first half. Ascena Retail Group saw its recovering shares get richer when the firm announced in May that it was buying Ann Taylor, thus adding another name to its large lineup of women and tween girl fashion retailers. Shares of GameStop Corporation rallied, helped in part by a strong new cycle for gaming consoles. This retailer of new and used video game hardware, software, and accessories has also seen profit growth running Simply Mac, an authorized retailer and repairer of Apple products located in small markets.

Vishay Intertechnology, the Fund's fourth-largest position and largest detractor, makes semiconductors and components. A conservatively capitalized, cash-rich business with a long history of successful and profitable execution, its shares began to slip in March in the context of a somewhat unsettled and more volatile market for many tech issues. The firm's good-sized exposure to an equally uncertain Europe may have also been a factor. The announcement in May that Vishay beat first-quarter profit expectations did little to garner investor interest. After last year's catastrophic drop in commodity prices, our long-term outlook for Energy is positive, and we were happy to hold a good-sized position in Unit Corporation at the end of June. Unit is primarily a contract driller that explores for and produces oil and natural gas while also being involved in midstream activities. In May the company announced a first-quarter loss that drove its shares down while our attention was more focused on its record oil production, improved dayrates, and other positive developments. Top-10 position Genesco sells specialty footwear, licensed and branded headwear, and licensed sports apparel. Its shares fell out of fashion after the company lowered its fiscal year earnings outlook late in May, as it continued to struggle with the turnaround for its two Lids businesses. Shares of residential mortgage insurer Genworth MI Canada began to recover in early April after beating first-quarter profit forecasts. Its shares were under water during the first quarter as lower energy prices fueled concerns about mortgage losses in the energy-dominated areas of western Canada earlier in the year.


Top Contributors to Performance
Year-to-Date Through 6/30/15 (%)1

Steven Madden 0.73
Ascena Retail Group 0.65
GameStop Corporation Cl. A 0.64
Convergys Corporation 0.53
Nu Skin Enterprises Cl. A 0.51
1 Includes dividends

Top Detractors from Performance
Year-to-Date Through 6/30/15 (%)2

Vishay Intertechnology -0.54
Unit Corporation -0.48
Genesco -0.45
Genworth MI Canada -0.43
NETGEAR -0.42
2 Net of dividends

Current Positioning and Outlook

At the end of June, the portfolio remained overweight in Consumer Discretionary, Information Technology, Materials, and Energy. These weightings reflected our expectation for slow but mostly steady economic growth. We also anticipate a possible increase in interest rates. However, even in the event of an increase, rates will remain historically low. The portfolio is positioned for a market that more consistently rewards quality companies with low leverage and high returns on invested capital.

Average Annual Total Returns as of Quarter-End 6/30/15 (%)

  QTR* YTD* 1 YR 3 YR 5 YR 10 YR SINCE INCEPT. DATE
Small-Cap Value -2.22 1.02 -2.33 12.86 11.17 8.05 10.52 6/14/2001
Russell 2000 0.42 4.75 6.49 17.81 17.08 8.40 8.26 N/A
Annual Operating Expenses: 1.45%

* 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 Service Class (its oldest class). Operating expenses reflect the Fund’s total annual operating expenses for the Service Class as of the Fund’s most current prospectus and include management fees, 12b-1 distribution and service fees, and other expenses. Shares of RVV’s Consultant and R Classes bear an annual distribution expense that is higher than that of the Service 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 year-to-date performance for 2015.

The thoughts expressed in this piece concerning recent market movements and future prospects for small company stocks are solely the opinion of Royce at June 30, 2015, 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 June 30, 2015 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 and mid-cap stocks, which may involve considerably more risk than investing in larger-cap stocks. In addition, as of 6/30/15 the Fund invested a significant portion of its assets in a limited number of stocks, which may involve considerably more risk than a more broadly diversified portfolio because a decline in the value of any 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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