Royce Dividend Value Fund Manager Commentary
article 06-30-2017

Royce Dividend Value Fund Manager Commentary

Terrific results for mid-caps, international holdings, and Financials helped drive a strong first half for the Fund.


Fund Performance

Royce Dividend Value Fund increased 7.7% for the year-to-date period ended June 30, 2017, outpacing its small-cap benchmark, the Russell 2000 Index, which was up 5.0% for the same period. The first half of 2017 saw a number of reversals in market leadership from 2016, and three factors that hurt relative performance in 2016 became positives in the first half of 2017.

Mid-cap stocks, in which a large percentage of the Fund’s assets are invested, outpaced their small-cap peers (the Russell Midcap Index rose 8.0% in the first half); the Fund also benefited from its investments in international stocks, as non-U.S. equities meaningfully outperformed their domestic counterparts; and investments in capital markets companies, by far the portfolio’s largest industry group weighting and the home of several of its non-U.S. holdings, which substantially beat both the small-cap index as a whole and the capital markets companies in the Russell 2000 for the first half. Altogether, it was an impressive performance in a period when most U.S. small- and mid-cap dividend payers lagged.

Dividend Value was up 4.3% for the first quarter versus a 2.5% gain for its benchmark. The Fund then enjoyed a solid second quarter, advancing 3.3% while the Russell 2000 again rose 2.5%. Dividend Value also outperformed the small-cap index for the since inception (5/3/04) period ended June 30, 2017.

What Worked…And What Didn’t

Seven of the portfolio’s 11 equity sectors finished the first half with net gains. Financials and Industrials led by significant margins, followed by Materials. Results for each of the two top sectors were dominated by a single industry group—capital markets for Financials and machinery for Industrials. Interestingly, the Fund’s two top contributing positions came from other industries. Recordati is an Italian pharmaceuticals company. This industry has been one of the few high-growth areas in an otherwise sluggish Italian economy, with drug companies increasing output and exports over the last seven years, which has helped to draw investors to Recordati’s shares. Global staffing and services company—and top-10 holding—ManpowerGroup saw its stock benefit from improved topline growth and a strong bottom line in 2016, solid fiscal first-quarter 2017 earnings, and a brightening global employment picture.

Another top-10 position, alternative asset manager KKR & Co. L.P. was helped by strong investment performance, growth in its balance sheet investments, and improved fee-related earnings. IDEX Corporation, also a top-10 holding, is a Norwegian machinery company specializing in fingerprint, imaging, and recognition technology. Its shares were somewhat volatile during the first half, but we were pleased to see a strong increase in revenues as the firm progressed toward the commercialization of its sensor solution for biometric credit cards.

Of the four sectors that detracted from first-half performance—Energy, Consumer Discretionary, Consumer Staples, and Telecommunication Services—none made a significant negative impact. The only industry to do so was specialty retail (Consumer Discretionary), where secular shifts in shopping and spending habits, driven in large part by the deep discounts offered by Amazon, have been wreaking havoc on sales and margins over the last few years. We sold our shares of footwear, headwear, and sports apparel retailer Genesco as first-quarter results and revised full-year guidance fell well below expectations due to intensified competition and management’s overconfidence that it could rebalance inventory to compensate for a key fashion shift it missed last year in its Journeys footwear chain.

Ongoing net losses from declining sales also led us to sell our shares in value-priced fashion retailer The Cato Corporation. Retail was not the only industry undergoing problems in the first half. Tumbling oil prices created formidable challenges for companies involved in energy, and land and platform rig operator (and long-time Royce holding) Helmerich & Payne was no exception, as sales were adversely affected. We retain our high regard for its innovative approach to its core business, which included the early adoption of flexible rigs, and like the way it has been executing through this latest round of challenges for its industry.

Relative to the Russell 2000, the Fund benefited most from stock selection in its two top-performing industries—capital markets and machinery. Hurting relative results were our significantly lower weighting in Health Care, specifically surging biotechnology stocks. Dividends are scarce throughout Health Care in the Russell 2000, where less than 8% of the companies in the sector were dividend payers at the end of June 2017, which accounts for the sector’s perennial underweight in the portfolio. A combination of our underweight and ineffective stock picks also hampered results in Information Technology.

Top Contributors to Performance Year-to-Date Through 6/30/171 (%)

KKR & Co. L.P.0.48
IDEX Corporation0.44
Hunter Douglas0.42

1 Includes dividends

Top Detractors from Performance Year-to-Date Through 6/30/172 (%)

Helmerich & Payne-0.28
Compass Minerals International-0.22
Western Union-0.19
Cato Corporation (The) Cl. A-0.18

2 Net of dividends

Current Positioning and Outlook

The most notable change we made in the first half was a reduction in both exposure and the number of names in the struggling specialty retail group, where we parted ways with The Buckle, Shoe Carnival, and Stein Mart. We are satisfied with our relatively large international weighting as we expect continued improvement in the global growth picture during the second half of 2017. At the end of June, the Fund’s three largest sectors—Financials, Industrials, and Materials—were also our three biggest overweights, consistent with our belief that cyclical companies with growing earnings look likely to lead over the next few years.

Average Annual Total Returns Through 06/30/17 (%)

Dividend Value 3.287.7220.073.8211.026.858.74 05/03/04

Annual Operating Expenses: Gross 1.39 Net 1.34

1 Not annualized.

Important Performance, Expense and Disclosure Information

All performance information 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 at 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.

All performance and risk information presented in this material prior to the commencement date of Investment Class shares on 9/14/07 reflects Service Class results. Service Class shares bear an annual distribution expense that is not borne by Investment Class shares.

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 June 30, 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 June 30, 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 6/30/17, the percentage of Fund assets was as follows: Recordati was 1.4%, ManpowerGroup was 2.3%, KKR & Co. L.P. was 2.3%, IDEX Corporation was 2.1%, Hunter Douglas was 1.2%, Helmerich & Payne was 1.2%, Genesco was 0.0%, Compass Minerals International was 1.3%, Western Union was 1.0%, The Cato Corporation was 0.0%.

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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