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Sydnee Gatewood
Sydnee Gatewood
Articles (3200) 

Royce Premier Fund 2nd-Quarter Manager Commentary

By Chuck Royce, Lauren Romeo and Steven McBoyle

Our Premier Quality Strategy held its long-term relative performance over the Russell 2000 Index for the one-, three-, five-, 15-, 20-, 25-year, and since inception (12/31/91) periods ended 6/30/20.

Fund Performance

We were pleased that during one of the more extreme and tumultuous six-month periods we have ever experienced, Royce Premier Fund maintained leadership over its small-cap benchmark, the Russell 2000 Index, outpacing the index for the one-, three-, five-, 15-, 20-, 25-year, and since inception (12/31/91) periods ended 6/30/20. For the year-to-date period ended 6/30/20, the Fund slightly lagged its benchmark, down 13.3% versus a decline of 13.0% for the Russell 2000 as the second quarter's rebound was not quite enough to make up for the first quarter's decline.

What Worked… And What Didn't

Industrials was by far the biggest detractor in 2020's first half, followed by Financials and Energy. In the case of the second sector, however, the portfolio's holdings held up noticeably better than those in the index. Information Technology was the largest positive contributor, followed by modest positive impacts from Consumer Discretionary and Health Care. These three were the only equity sectors out of the nine in which the Fund held investments that posted positive performance for the year-to-date period ended 6/30/20.

The position that detracted most from performance was Genworth MI Canada (TSX:MIC), the second-largest player in an oligopoly of private residential mortgage insurance providers in Canada. Its shares sold off on concerns that the country's rising unemployment rate and cooling housing market would lead to mortgage delinquencies, keying a rise in Genworth's insurance loss ratio. Our own analysis shows that Genworth is overcapitalized, has a secure and generous dividend yield, and was trading at approximately 80% of tangible book value at the end of June, making the stock an attractive value in our view. CIRCOR International (NYSE:CIR) manufactures flow control products for a broad range of industrial and aerospace applications. The combination of exposure to highly cyclical industries and above-average (though declining) leverage drove investors away in the first quarter before the stock rebounded with improving—that is, less bad—economic data. After reducing our position meaningfully in 2019, we exited fully in 2020's second quarter. While we believe there remains much to like about CIRCOR's business, there were other companies in which we had greater conviction.

Manhattan Associates (NASDAQ:MANH) was the top-contributing position in the first half; the firm also boasts the number one share in warehouse management systems software. Accelerating demand for its core product, driven by the launch of its long-awaited cloud version and the disruptions related to the COVID-19 pandemic, has been catalyzed by increases in corporate spending on software that enhances flexibility in, and visibility into, companies' supply chains. The pandemic has also stoked demand for the company's Active Omni suite of solutions, which enable retailers to leverage their physical store base for e-commerce options. Bio-Techne (NASDAQ:TECH), a leading developer and manufacturer of high-quality purified proteins and reagent solutions, has also been experiencing accelerating demand, in its case for reagents, assays, and diagnostic tools that are being used in the development of tests for both the coronavirus and antibodies, in addition to patient monitoring. Its reagents and analytical solutions are critical "picks and shovels" in life sciences research and development, making it far more than what some might call a "COVID play." Since the arrival of its current CEO in 2013, the company has tripled its revenues via aggressive product development, geographic expansion, and acquisitions.

On a relative basis, the Fund's narrow underperformance was entirely due to sector allocation as stock selection was positive in 2020's first half. Our underweight in Health Care, which included no exposure to the market-leading biotechnology industry, hurt relative performance most. Our overweight in the cyclically sensitive and lagging machinery and marine groups resulted in Industrials also detracting from results versus the small-cap index. On the positive side, stock selection in Financials helped, as did our lack of exposure to the sector's weak bank industry. Both savvy stock selection and overweighting the Information Technology sector also aided relative performance.

Top Contributors to PerformanceYear-to-Date Through 6/30/191 (%)

Fair Isaac 1.55
CIRCOR International 1.40
John Bean Technologies 1.33
Ares Management Cl. A 1.28
Woodward 1.20

1 Includes dividends

Top Detractors from PerformanceYear-to-Date Through 6/30/192 (%)

Lindsay Corporation -0.41
National Instruments -0.16
Wolverine World Wide -0.11
Dorman Products -0.10
nLIGHT -0.08

2 Net of dividends

Current Positioning And Outlook

In these turbulent times, we are looking closely at how management teams are adjusting to adversity. We want to see that they can execute effectively through uncertain periods because our experience shows that the ability to cope well with difficulties and enjoy success when more stable conditions return are closely correlated. We have also been making changes to better position the portfolio, which included exiting three holdings in the second quarter in which we no longer had sufficient confidence in their business models and/or management. We added a new holding, one that has, in our view, a distinctive position among infrastructure construction services and a second that provides core banking and other services to small regional and community banks. We are very mindful of the extraordinary amount of worldwide monetary and fiscal stimulus, with signals that more is on the way. These efforts seem likely to be successful in spurring an economic recovery. With the expectation that cyclicals will outpace defensives in a re-energized global economy (as they have historically), we continue to lean the portfolio towards high-quality cyclical stocks.

Average Annual Total Returns Through 06/30/19 (%)

Premier 4.97 21.69 6.28 15.94 6.68 12.47 9.59 10.70 11.60 12/31/91

Annual Operating Expenses: 1.19

1 Not annualized.

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, 2020, 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, 2020 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 6/30/20, the percentage of Fund assets was as follows: Manhattan Associates was 2.9%, Bio-Techne was 2.2%, Ares Management Cl. A was 2.9%, Cognex Corporation was 2.2%, Pool Corporation was 1.8%, Genworth MI Canada was 1.5%, CIRCOR International was 0.0%, Pason Systems was 1.1%, Alleghany Corporation was 1.6%, Kirby Corporation was 1.7%

About the author:

Sydnee Gatewood
I am the editorial director at GuruFocus. I have a BA in journalism and a MA in mass communications from Texas Tech University. I have lived in Texas most of my life, but also have roots in New Mexico and Colorado. Follow me on Twitter! @gurusydneerg

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