article 01-14-2014

Holiday Leftovers—three potential jewels in the Royce stocking…

After looking over returns for 2013, I was struck by what an exceptional year it was in terms of small-cap returns, one of the five best calendar-year returns since the inception of the Russell 2000 Index in 1979.

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It’s easy to get lost in these numbers… both for 2013 alone and longer-term performance. The five-year average annual total return for the Russell 2000, for example, was 20.1% for the period ended December 31, 2013, which was also a highly exceptional return.

As amazing as these numbers are, I want to turn to what I think are some exceptional funds here at Royce. All three have more than strong numbers going for them… while they’re not among our Featured Funds, I think each has exhibited excellent discipline in niche areas that are very important to the firm.

Royce European Smaller-Companies Fund is helmed by David Nadel and London-based Mark Rayner… Europe will continue to be a rich source of high-quality ideas for us. The analytic work that David and Mark have done has contributed greatly to our efforts in the international space, including providing ideas for one of our newer offerings that just achieved three years of history—Royce International Premier Fund, which uses the same high-quality selection standard as our domestic Royce Premier Fund.

Royce Micro-Cap Opportunity Fund (formerly Royce Opportunity Select Fund) uses a singular, theme-based, opportunistic approach. Bill Hench, who has worked with Buzz Zaino since joining Royce in 2002, has managed Micro-Cap Opportunity since its inception on August 31, 2010. I think he’s put together a very impressive track record so far. The Fund may invest in both long and short positions… Bill invests the long portion of the portfolio mostly in small-cap stocks, many in the upper range of micro-cap. He is a highly valued, very strong part of our micro-cap investment team.

Royce Financial Services Fund just completed its first 10 years… its focus—and I know this well because I have the privilege of managing the portfolio—is to use a healthy number of small-cap securities… more than 50% of its holdings had market caps up to $2.5 billion at the end of 2013… with a generous selection of non-bank financial businesses such as asset managers, insurance brokers, stock exchanges, investment banks, and regional brokers… many of these ideas find their way to other Funds at the firm.

I think that each is worth a look, especially by serious small-cap investors open to smaller portfolios in more niche zones… each had less than $50 million in net assets at the end of 2013… I see all three as highly representative of our culture, which encourages finding ideas that can then be shared and used in many of our portfolios.

European Smaller-Cos, Micro-Cap Opportunity, and Financial Services Funds
Average Annual Total Returns as of Period-Ended 12/31/13
(%)

  QTR YTD 1YR 3YR 5YR 10YR Since
Incept.
Date
European Smaller-Cos 5.74 20.83 20.83 6.03 20.51 N/A 4.73 12/29/2006
Micro-Cap Opportunity 10.01 44.61 44.61 17.43 N/A N/A 24.98 8/31/2010
Financial Services 10.33 42.00 42.00 14.99 18.94 8.97 8.97 12/31/2003
Russell 2000 8.72 38.82 38.82 15.67 20.08 9.07 N/A N/A
Russell Euro SC 10.49 36.55 36.55 11.36 21.17 10.85 N/A N/A
Russell 2500 Fnl Svc 8.55 30.40 30.40 14.83 14.93 6.44 N/A N/A

European Smaller-Cos Annual Operating Expenses: Gross 2.16% Net 1.72%
Micro-Cap Opportunity Annual Operating Expenses: Gross 2.67% Net 1.38%
Financial Services Annual Operating Expenses: Gross 1.96% Net 1.58%

Important Performance and Expense 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 180 days of purchase may be subject to a 1% redemption fee payable to the Fund (2% for Royce European Smaller-Companies Fund). Redemption fees are 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. Gross operating expenses reflect each Fund's gross total annual operating expenses, including management fees, 12b-1 distribution and service fees, other expenses, and any applicable acquired fund fees and expenses. Net operating expenses reflect contractual fee waivers and/or expense reimbursements. All expense information is reported as of each Fund's most current prospectus. Royce & Associates has contractually agreed to waive fees and/or reimburse operating expenses through April 30, 2014 to the extent necessary to maintain net annual operating expenses, other than acquired fund fees and expenses, to no more than 1.69% for the Service Class of Royce European Smaller-Companies Fund and to no more than 1.49% for the Service Class of Royce Financial Services Fund. Royce & Associates has contractually agreed to waive fees and/or reimburse operating expenses through April 30, 2015 to the extent necessary to maintain net annual operating expenses, other than acquired fund fees and expenses, to no more than 1.24% for the Investment Class of Royce Micro-Cap Opportunity Fund. Royce & Associates has contractually agreed to waive fees and/or reimburse operating expenses through April 30, 2023 to the extent necessary to maintain net annual operating expenses, other than acquired fund fees and expenses, to no more than 1.99% for the Investment Class of Royce European Smaller-Companies Fund and Royce Micro-Cap Opportunity Fund. Acquired fund fees and expenses reflect the estimated amount of the fees and expenses incurred indirectly by the Fund through its investments in mutual funds, hedge funds, private equity funds, and other investment companies.

Important Disclosure Information

Chuck Royce is President, Director of Investments, and a portfolio manager of Royce & Associates, LLC, investment adviser for The Royce Funds. Mr. Royce’s thoughts in this piece are solely his own and may differ from those of other Royce investment professionals, or the firm as a whole. There can be no assurance with regard to future market movements.

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.

Royce European Smaller-Companies Fund invests primarily in companies that are located in Europe. Securities of foreign companies may be subject to different risks than investments in securities of U.S. companies, including adverse political, social, economic, or other developments that are unique to a particular country or region (please see "Investing in Foreign Securities" in the prospectus). Therefore, the prices of the securities of foreign companies in particular countries or regions may, at times, move in a different direction than those of the securities of U.S. companies. (Please see "Primary Risks for Fund Investors" in the prospectus.) The Fund invests primarily in micro-cap, small-cap, and/or mid-cap stocks, which may involve considerably more risk than investing in larger-cap stocks. (Please see "Primary Risks for Fund Investors" in the prospectus.) In addition, as of 9/30/13 the Fund held a limited number of stocks, which may involve considerably more risk than a less concentrated 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.

Royce Opportunity Select Fund invests primarily in small-cap and micro-cap companies, which may involve considerably more risk than investing in larger-cap stocks. (Please see "Primary Risks for Fund Investors" in the prospectus.) The Fund also invests primarily in a limited number of stocks, which may involve considerably more risk than a less concentrated portfolio because a decline in the value 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 sell securities short which involves selling a security it does not own in anticipation that the security's price will decline. Short sales present unlimited risk on an individual stock basis since the Fund may be required to buy the security sold short at a time when the security has appreciated in value. The Fund may invest up to 25% of its net assets in foreign securities, which may involve political, economic, currency, and other risks not encountered in U.S. investments. (Please see "Investing in Foreign Securities" in the prospectus.)

Royce Financial Services Fund invests primarily in equity securities in the financial services sector. The Fund is not a complete investment program. It is designed for long-term investors who can accept the risks of investing in a fund with common stock holdings primarily in smaller-cap financial services companies. Therefore, the Fund is subject to certain risks associated with the industry, including, among other things, changes in government regulations, interest rate levels, and general economic conditions. The Fund invests primarily in micro-cap, small-cap, and/or mid-cap stocks, which may involve considerably more risk than investing in 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. As of 9/30/13 the Fund held a limited number of stocks, which may involve considerably more risk than a less concentrated 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. The Fund may invest up to 35% of its net assets in foreign securities, 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 Europe Small Cap Index is an unmanaged, capitalization-weighted index of European small-cap stocks. Index returns include net reinvested dividends and/or interest income. The Russell 2000 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 Russell 2500 index represents the smallest 2,500 companies in the Russell 3000 index. The returns for the Russell 2500—Financial Sector represent those of the financial services companies within the Russell 2500 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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