Royce Global Financial Services Fund Manager Commentary
article 02-12-2018

Royce Global Financial Services Fund Manager Commentary

In a year when Financials lagged, the Fund delivered strong absolute and relative returns to finish well ahead of its benchmark.

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Fund Performance

Royce Global Financial Services Fund delivered strong absolute and relative returns in 2017, posting an impressive 22.5% result, well ahead of the respective gains of 14.6% and 10.5% for its benchmark, the Russell 2000 Index, and the Russell 2500 Financial Services Index. We continue to see greater diversity than many investors seem to realize in both business models and business cycles in financial companies, particularly when the opportunity set includes non-U.S. companies.

This approach enables us to find attractive investments, even in a year such as 2017 when Financials significantly lagged the Russell 2000 Index. We also believe some financial business models, including asset managers & custody banks, investment banking & brokerage, and financial exchanges & data companies, are more attractive and tend to produce better results over time. Holdings in these three industries made large contributions to both absolute and relative returns in 2017.

What Worked… and What Didn’t

Capital markets, the Fund’s largest industry, was its biggest contributor by far to performance. As the global equity markets advanced strongly in 2017, it was not surprising that asset managers and investment banks also enjoyed a good year. Within the asset management group, the Fund has intentionally narrowed its focus towards specialty traditional managers and alternative asset managers, believing that broad-based firms will continue to face headwinds. This focus was rewarded as many of the portfolio’s top performers came from these two categories.

Real estate management & development was the second-largest industry contributor, thanks to superior stock selection, as overall industry returns were modest. Banks, the Fund’s second-largest industry, were its third-best contributor. 2017 was mostly disappointing for banks as high expectations at the end of 2016 went largely unfulfilled due to a flatter yield curve for most of the year and subpar loan growth.

We think the long-term optimism for banks remains well placed and used stock-price weakness during the year to selectively increase our investments. The two industries that had negative returns for the year—diversified financial services and equity real estate investment trusts—had only minor losses.

U.S. Global Investors is a specialty asset manager focused mostly on precious metals. Its shares surged in the second half of the year stemming from the announcement of an investment in a blockchain technology company. Bitcoin enthusiasm saw the stock nearly double in the fourth quarter. We sold a large number of shares during this advance, which we saw as unsustainable.

Canada’s FirstService Corporation provides property services and is North America’s largest residential property manager. Its shares advanced most during the first half as earnings and revenue growth consistently exceeded expectations.

Ashmore Group is a U.K.-based asset manager specializing in emerging market fixed income. Its shares advanced sharply when the firm reported higher-than-expected net flows while also posting very competitive performance.

Two of the three largest individual detractors shared the important connection of exposure to Puerto Rico. MBIA provides financial guarantee insurance and has significant exposure to Puerto Rican bonds, while Popular is one of the largest Puerto Rico-based banks. Both stocks declined through much of the year as concerns increased about Puerto Rico’s economic state.

Following September’s hurricanes, investors became increasingly concerned and both stocks fell sharply, though both had rebounded somewhat from their lows by year-end. We held our shares as we believe that each company has a durable franchise and our experience is that the worst expectations are rarely realized. Canada’s Dundee Corporation has operations in wealth management, real estate, and natural resources. The stock declined most in the first half as mounting losses in mining and resource-based activities put downward pressure on its shares.


Top Contributors to Performance 20171 (%)

U.S. Global Investors Cl. A2.31
FirstService Corporation1.45
Ashmore Group1.16
Edelweiss Financial Services0.97
SEI Investments0.94

1 Includes dividends

Top Detractors from Performance 20172 (%)

MBIA-0.65
Dundee Corporation Cl. A-0.49
Popular-0.45
Medley Management Cl. A-0.25
GBST Holdings-0.21

2 Net of dividends

Current Positioning and Outlook

Our outlook is mixed. We are cautious about the prospective absolute returns for U.S. small-caps, but feel optimistic about the Fund’s relative return prospects as we believe that the market will continue to favor the financial services areas that are well-represented in our portfolio. We believe that a globally synchronized economic expansion will support revenue and profit growth for many financial businesses, particularly our preferred capital markets companies.

In the U.S., we have also increased our bank exposure, targeting a handful of companies that we think have differentiated franchises. A steeper yield curve and increased loan demand look likely to foster a very attractive environment. We have increased our exposure to high net worth wealth management in different ways, through banks with significant wealth management divisions and through technology providers to wealth managers.

Additionally, we are optimistic about the prospects outside of the U.S. and think the Fund’s international holdings are well positioned to participate. Finally, we believe that increased profits for financial companies should in turn create opportunities for expanded revenue and profits for the specialist vendors who serve them.

Average Annual Total Returns Through 12/31/17 (%)

QTR1 YTD1 1YR 3YR 5YR 10YR SINCE INCEPT. DATE
Global Financial Services 6.9322.4622.469.6314.127.698.71 12/31/03
Russell 2000 3.3414.6514.659.9614.128.718.96 N/A
Russell 2500 Fnl Svc 3.6510.5010.5011.8115.188.187.91 N/A

Annual Operating Expenses: Gross 1.78 Net 1.60

1 Not annualized.

Important Performance and Disclosure Information

Important Performance and Expense Information

 

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

Notes to Performance and Other Important Information

The thoughts expressed in this report concerning recent market movements and future prospects for small company stocks are solely the opinion of Royce at December 31, 2017, 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, 2017 and are subject to change at any time without notice. There can be no assurance that securities mentioned in this report will be included in any Royce-managed portfolio in the future.


As of 12/31/17, the percentage of Fund assets was as follows: U.S. Global Investors Cl. A was 1.3%, FirstService Corporation was 2.6%, Ashmore Group was 2.1%, Edelweiss Financial Services was 1.3%, SEI Investments was 2.6%, MBIA was 1.3%, Dundee Corporation Cl. A was 0.3%, Popular was 2.1%, Medley Management Cl. A was 0.0%, GBST Holdings was 0.4%.


Sector weightings are determined using the Global Industry Classification Standard (“GICS”). GICS was developed by, and is the exclusive property of, Standard & Poor’s Financial Services LLC (“S&P”) and MSCI Inc. (“MSCI”). GICS is the trademark of S&P and MSCI. “Global Industry Classification Standard (GICS)” and “GICS Direct” are service marks of S&P and MSCI. 

All indexes referred to are unmanaged and capitalization weighted. Each index’s returns include net reinvested dividends and/or interest income. 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 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 Russell 2000 Value and Growth Indexes consist of the respective value and growth stocks within the Russell 2000 as determined by Russell Investments. The Russell 1000 Index is an index of domestic large-cap stocks. It measures the performance of the 1,000 largest publicly traded U.S. companies in the Russell 3000 Index. The Russell Microcap Index includes 1,000 of the smallest securities in the Russell 2000 Index, along with the next smallest eligible securities as determined by Russell. The Russell Midcap Index measures the performance of the mid-cap segment of the U.S. equity universe. It includes approximately 800 of the smallest securities in the Russell 1000 Index. The Russell Global ex-U.S. Small Cap Index is an index of global small-cap stocks, excluding the United States. The Russell Global ex-U.S. Large Cap Index is an index of global large-cap stocks, excluding the United States. The performance of an index does not represent exactly any particular investment, as you cannot invest directly in an index. Returns for the market indexes used in this report were based on information supplied to Royce by Russell Investments. Royce has not independently verified the above described information.

This material contains forward-looking statements within the meaning of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), that involve risks and uncertainties, including, among others, statements as to: 

-the Funds’ future operating results,

-the prospects of the Funds’ portfolio companies,

-the impact of investments that the Funds have made or may make, the dependence of the Funds’ future success on the general economy and its impact on the companies and industries in which the Funds invest, and

-the ability of the Funds’ portfolio companies to achieve their objectives.

This discussion uses words such as “anticipates,” “believes,” “expects,” “future,” “intends,” and similar expressions to identify forward-looking statements. Actual results may differ materially from those projected in the forward-looking statements for any reason.

The Royce Funds have based the forward-looking statements included in this commentary on information available to us on the date of the commentary, and we assume no obligation to update any such forward-looking statements. Although The Royce Funds undertake no obligation to revise or update any forward-looking statements, whether as a result of new information, future events, or otherwise, you are advised to consult any additional disclosures that we may make through future shareholder communications or reports.

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. Smaller-cap stocks may involve considerably more risk than larger-cap stocks. (Please see ""Primary Risks for Fund Investors"" in the prospectus.)

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