Royce Low-Priced Stock Fund Manager Commentary
article 02-22-2016

Royce Low-Priced Stock Fund Manager Commentary

In 2015 the market continued to present challenges for active, risk-conscious, valuation-centric approaches. These difficulties (as well those that arrived with the new year in 2016) presented promising long-term opportunities, and we entered the new year with renewed, though cautious, optimism.


Fund Performance

Royce Low-Priced Stock Fund was down 10.4%, trailing its small-cap benchmark, the Russell 2000 Index, which lost 4.4% for the same period. For the year-to-date period ended June 30, 2015, Low-Priced Stock advanced 2.6% compared to 4.8% for the small-cap index. Markets got much rougher in the third quarter when a broadly bearish wave hit.

The Fund fell 15.7% for the quarter while the Russell 2000 was down 11.9%. Net losses for Financials (due to an underweight in banks and REITs) and Information Technology hurt relative results most during the downturn.

When equities rebounded in the year's closing quarter, the portfolio participated, increasing 3.5% (versus 3.6% for the benchmark), keyed by renewed strength in the Information Technology sector. We were also pleased that the Fund outpaced the Russell 2000 for the 15-, 20-year, and since inception (12/15/93) periods ended December 31, 2015. Low-Priced Stock's average annual total return since inception was 9.8%.

In 2015 market continued to present challenges for active, risk-conscious, valuation-centric approaches. It was a more difficult year for small-caps than the benchmark's return might show, however—on an equal-weighted basis, the Russell 2000 was down 10.1%.

In addition, these difficulties (as well those that arrived with the new year in 2016) presented promising long-term opportunities. Indeed, following a strong fourth quarter, we entered the new year with renewed, though cautious, optimism.

What Worked... And What Didn't

Seven of the portfolio’s nine equity sectors finished the year with net losses. Energy led by a wide margin, and the sector’s energy equipment & services group detracted most on an industry basis. The sector’s woes are well known—the generally slower pace of global industrial activity has sapped demand while producers remain committed to keeping the pumps open. We trimmed our exposure throughout the year.

Our efforts to high-grade our holdings in the sector led us to increase stakes in those companies in which he had high levels of conviction, such as Gulf Island Fabrication, Profire Energy, and Unit Corporation. Conversely, we sold our shares of C&J Energy Services, Calfrac Well Services, and Trican Well Services.

"2015's difficulties (as well those that arrived with the new year in 2016) presented promising long-term opportunities. Indeed, following a strong fourth quarter, we entered the new year with renewed, though cautious, optimism."

On a position basis, Acacia Research, a leading patent assertion company known as a Non Practicing Entity posted the biggest net losses. While the company has amassed a formidable portfolio of patents and is in the early stages of asserting against infringing parties, it has not been as successful in monetizing these assets as we had hoped. As a risk control measure, we reduced our position through much of the year.

Dundee Corporation is a diversified financial services company. The firm also holds a portfolio of investments primarily in energy, natural resources, and agriculture that was hurt by declining commodity prices. We sold shares in the second half of the year.

Silicon Graphics International provides computing and storage technology for big data applications. Its stock price fell early in 2015 over privacy-driven concerns that slowed sales to the NSA. After selling shares, we began to rebuild a position late in the year when we started to see increased visibility into its backlog of new products targeting more commercial applications.

Zinc producer Horsehead Mining was the loss leader in metals & mining, the portfolio’s second-largest detractor by industry. Among other challenges, management struggled to boost production in a new processing facility to a level that would generate sustainable returns for shareholders. The combination of falling zinc prices, low utilization, and relatively high levels of project financing led us to sell our position.

On the positive side, firearms manufacturer Smith & Wesson Holding continued to gain market share while recent heavy investments in R&D led to major product innovation. Value Partners Group is one of the world’s largest asset managers focused on Hong Kong and China. We trimmed our position during the second quarter, though we held some shares given the long-term opportunities we see in Asia.

On a relative basis, the biggest issues were ineffective stock selection in Information Technology (Internet software & services and technology hardware storage & peripherals), our underweight in Health Care, an overweight in Energy, and poor stock selection in Materials. Conversely, stock selection provided relative advantages in Industrials and Consumer Discretionary.

Top Contributors to Performance
For 2015 (%)1

Smith & Wesson Holding Corporation 0.67
Value Partners Group  0.64
Tecumseh Products  0.48
Zealand Pharma 0.43
Orbotech 0.39
1 Includes dividends

Top Detractors from Performance
For 2015 (%)2

Acacia Research -0.91
Dundee Corporation Cl. A  -0.72
Silicon Graphics International -0.66
Horsehead Holding Corporation -0.58
Global Power Equipment Group -0.52
2 Net of dividends

Current Positioning and Outlook

At the end of 2015, the portfolio remained overweight Information Technology and Industrial stocks, sectors that look well positioned to benefit from the relative strength of the U.S. economy. We believe a number of opportunities exist in secular trends such as The Internet of Things and Mobile Computing that have positive implications for niche small-cap tech companies.

While oil prices remain depressed, we expect our more conservatively capitalized holdings to begin benefiting from their balance sheet strength as credit conditions continue to worsen for the industry. We added to companies in Consumer Discretionary as we see U.S. consumers as reasonably well positioned given solid employment trends and lower energy prices.

We have also been adding to positions in Financials as we view the Fed’s first steps toward a more normalized interest rate environment as generally constructive for many companies in the sector. Health Care remains our largest underweight, biotech specifically, where multiples continued to look too stretched for our valuation-based discipline.

Average Annual Total Returns Through 12/31/15 (%)

Low-Priced Stock 3.47 -10.42 -0.76 -2.70 3.22 6.52 9.58 9.82 12/15/93
Russell 2000 3.59 -4.41 11.65 9.19 6.80 7.28 8.03 8.56 N/A
Annual Operating Expenses: 1.47%

*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 gross total annual operating expenses for the Service Class as of the Fund’s most current prospectus, including management fees, 12b-1 distribution and service fees, and other expenses. Shares of RLP’s R Class 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 December 31, 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 December 31, 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.

As of 12/31/15, Gulf Island Fabrication was 0.5% of net assets, Profire Energy was 0.3%, Unit Corporation was 0.5%, C&J Energy Services was 0.0%, Calfrac Well Services was 0.0%, Trican Well Services was 0.0%, Acacia Research was 0.5%, Dundee Corporation was 0.2%, Silicon Graphics International was 0.4%, Horsehead Mining was %, Smith & Wesson Holding was 0.6%, and Value Partners Group was 1.0%.

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 low priced small-cap stocks, which may involve considerably more risk than investing in higher-priced or larger-cap stocks. (Please see "Primary Risks for Fund Investors" in the prospectus.) The Fund’s broadly diversified portfolio does not ensure a profit or guarantee against loss. The Fund may invest up to 35% 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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