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Sydnee Gatewood
Sydnee Gatewood
Articles (3388) 

Keeley Small Cap Dividend Value Fund 4th-Quarter Shareholder Commentary

Discussion of markets and holdings

To Our Shareholders,

For the quarter ended December 31, 2020, the KEELEY Small Cap Dividend Value Fund's net asset value ("NAV") per Class A share gained 32.28% versus a 33.36% gain for the Russell 2000 Value Index. For the full year, the Fund rose 3.58% compared with a 4.63% increase for the benchmark.


Small caps, as measured by the Russell 2000 Index, have never appreciated that much in a quarter; in fact, the Russell 2000 had its best quarter since inception. Also noteworthy about the fourth quarter was small cap stocks outperformed large cap stocks by a record amount. Whether using the Russell 2000 itself or the 2000 Value or 2000 Growth Indices, they all outperformed their large cap comparables (Russell Top 200) by 19 to 20 percentage points. You have to go back to the rst quarter of 1991 to get anywhere close to this. Given how much they have lagged in recent years, we have argued that small-caps were due for a catch-up rally, but we did not expect the magnitude of this move. e long awaited rotation has arrived. As a result of this, full-year returns for small caps trailed large caps only by a couple points and they actually exceeded the returns for mid caps stocks; 20.0% for the Russell 2000 vs. 22.4% for the Russell Top 200 and 17.1% for the Russell Midcap Index.

While Value stocks outperformed in the fourth quarter, Growth stocks built a sizable lead in the rst three quarters and remained well ahead for the year; +2.9% for the Russell 3000 Value vs. +38.3% for the Russell 3000 Growth. Returns for Value have only exceeded those for Growth in three of the last ten years and the di erence in annualized returns has been 3.3% per year. We call attention to the 1990s when Growth outperformed Value in six of the ten years with an average return di erential of 4.4%. e '90s were, of course, followed by the 2000s, when Value outperformed in eight of ten years by an average of 6.7%.

It appears that we are in the early stages of a shift in market leadership from large to small and from growth to value. is new cycle is being powered by the combination of the lagged impact of global massive monetary and scal stimulus along with the prospect of multiple vaccines. We could expect strong economic growth next year accompanied by an impressive recovery in corporate earnings. Given the positive backdrop, equities are positioned for sustained gains over the next few years. Our outlook for 2021 centers on the combination of historic excess liquidity, engineered by the U.S. Federal Reserve and global central banks, coupled with a synchronized global recovery. Along with a high consumer savings rate, the U.S. housing market remains robust as evidenced by record sales of both existing and new homes. Another engine of global growth is China, which is enjoying a prolonged v-shaped rebound throughout its economy. China's industrial production rose 7% in November, while retail sales grew 5%.

Since the lows in March, the market has regained its old highs. While valuations have been somewhat stretched, our value universe of smaller company stocks still o ers reasonable risk /reward. Since the initial snapback, the market grinded higher on improving economic data and progress in managing the pandemic. In the fourth quarter, we got a big dose of both of these developments as several vaccines in clinical trials passed key hurdles, including FDA approval, and Congress passed another round of stimulus payments.

In addition, the outcome of the national election with Joe Biden as President and Democrats in control of Congress, should lead to signi cant scal stimulus and infrastructure spending, generally bene ting cyclicals, industrials, nancials and materials companies, where we deploy much of our research e ort to uncover attractively priced equities. is should also have direct impacts on consumer and construction companies. On the negative side, President-elect Biden campaigned on a platform that included raising corporate taxes. We note that in the aftermath of President Trump's election win in 2016, Financial and Energy stocks performed very well because investors believed that a Trump administration would ease regulation on those industries. However, the pandemic changed all that with those stocks among the worst performing sectors since then. We remain optimistic about prospects for the equity markets.

We believe the trajectory of the COVID-19 pandemic will continue to unnerve markets, particularly in the early part of the year. e market seems to be pricing in a relatively smooth roll-out of vaccine programs and a tapering o of the pandemic as we work through the rst half of the year. If this schedule is thrown o by signi cant delays in manufacturing or distribution, unwillingness of healthy people to be vaccinated, or mutations of the virus that make the vaccine less e ective, we think markets would struggle. Our expectation: we think that there will be some slight delays and shut-downs could get worse in the near-term, but our expectations are for conditions to be "mostly normal" by end of the year.

As for inflation, with the exception of energy, commodity prices are higher over the last year despite the economic contraction. Gold is up 24%, silver is up 47%, copper is up 26%, but also corn is up 25% and soybeans are up 37%. In ation can create cost issues for some companies, but more importantly, in ation expectations influence long-term interest rates and those impact valuations. We would expect in ation to ultimately meet the Fed's target goal of 2 percent as evidenced by the steepening yield curve. The trajectory of corporate earnings will likely influence the markets this year. Current estimates call for earnings in the Russell Top 200 to fall 10% in 2020 and then rise 18% in 2021. For small caps, we witnessed a fall of 50% last year and in 2021 expect a steep increase of greater than 100%. Mid caps land in between at down 29% in 2020 and up 42% in 2021. While estimates for the year are often high at the beginning of the year, this is not usually the case in recovery periods. Furthermore, forward expectations have been rising over the last several months. Our expectation: We think earnings will surprise to the upside. As bottom up, fundamental value investors, we seek to uncover high quality undervalued stocks that we believe offer the best risk/reward trade-off at any given time.

Portfolio Results

The fourth quarter was the best quarter in the Keeley Small Cap Dividend Value Fund's history, but it was not quite enough to exceed the gain in the Fund's benchmark, the Russell 2000 Value Index. Two factors served as headwinds to a very strong quarter. First, dividend-paying small-cap stocks continued to lag the non-dividend-paying peers. We estimate that dividend payers within the Russell 2000 Value Index rose by 29.8% compared with a 37.0% gain for the non-dividend-payers. e dividend payers lagged in every sector. In strong markets, this should probably be expected, but given the underperformance of dividend-payers over the last several quarters, perhaps a snapback could have happened. We would expect a catch-up phase going forward. Also, while the Fund's cash position averaged less than 3% in the quarter, the strong gain in small-cap stocks meant that the cash holdings were a drag to performance.

If we disaggregate performance into Sector Allocation and Stock Selection, the Allocation eect was impacted by our dividend payout requirement and the Selection eect was negligible. While the Selection eect was neutral overall, we saw a large positive impact from the Fund's Financials holdings and a more modest impact from Industrials. ese positives were offset by lagging performance in the Real Estate, Technology, and Consumer Staples sectors.

  • While not the best, the Financials sector (within the benchmark) performed better than the overall market and the Fund's holdings performed meaningfully better than the benchmark. There were several standouts, but no one stock drove performance. In fact, all twenty-three of the Fund's Financials holdings appreciated in the quarter and seven stocks were up more than 50%. The Fund has leaned on banks within the sector and strong third quarter results and an improving outlook on credit costs drove strong gains in the bank sector.
  • Industrials were another bright spot for the Fund. In this case, the drivers were a bit more concentrated with Primoris Services (discussed later in this report) and Covanta Holdings (waste-to-energy plants) accounting for much of the outperformance.
  • The Real Estate sector lagged only Utilities and Healthcare within the Index, but the Fund's holdings did not keep up with the sector's 23% advance. While half of the Fund's eight positions comfortably exceeded the sector's performance, the other half fell well short with the biggest laggard being Alpine Income Property Trust. As it is also one of the Fund's biggest laggards, it is discussed later in this report. Two of the other laggards in the quarter, National Storage Affiliates, and STAG Industrial, are actually two of the Fund's better performers in the Real Estate sector for the full-year.
  • The Fund's Technology holdings did well, rising almost 37% during the quarter, not enough to keep up with the sector, where a 43% gain for the Index was good enough to put it behind only the Materials and Energy sectors. All of the Fund's positions appreciated at least 15%, but only Dolby outpaced the gain of the overall sector.
  • Consumer Staples is a very small sector within the small-cap universe and the Fund holds only one Staples stock, Primo Water. Its 10% rise was well below the 29% gain for the sector. is is a little surprising in light of the fact that the company beat third quarter earnings expectations, provided in-line guidance, and should as people return to the office.

During the quarter, the Fund added three new holdings and completed the sales of two positions.

Let's Talk Stocks

The top three contributors in the quarter were:

Kontoor Brands (NYSE:KTB) (KTB - $40.56– NYSE) is the second-largest manufacturer in the global jeans market, with its portfolio largely consisting of the Wrangler and Lee brands. Shares rallied during the quarter as Kontoor management reinstated the company's dividend and also resumed earnings guidance at a level well ahead of where analyst expectations had been. With a strong sell-in of Lee at Walmart and robust digital sales, Kontoor saw its revenues stabilize sooner than previously expected. A shift to casual wear during the pandemic also benefited Kontoor. Finally, Kontoor's gross margin has been buoyed by product cost improvements, channel mix and product mix.

Primoris Services (NASDAQ:PRIM) (PRIM - $27.61–NASDAQ) is a diversified engineering and construction company focused on the construction of pipelines, utility scale transmission and distribution, and heavy civil projects. The company reported results that exceeded consensus estimates and increased guidance well above expectations. Management delivered on expected improvements in the Transmission segment by posting double-digit revenue growth and equally impressive margin improvement. In addition, the company announced the acquisition of Future Infrastructure Holdings in mid-December that will add a new platform for growth in telecommunications services.

BrightSphere Investment Group (NYSE:BSIG) (BSIG - $19.28 – NYSE) is a global, diversi ed, a liate-based asset management company with over $180 billion in assets under management. e company reported a reasonably good third quarter with better than expected earnings on continued cost controls. Reuters reported in November that Brightsphere was exploring the sale of its stake in alternative asset management a liate Landmark, which could potentially be worth close to $1 billion and provided a boost to shares. Additionally, the company also announced in November that it completed the sale of its interest in Barrow, Hanley, Mewhinney, and Strauss, LLC to Perpetual US Holdings Company Inc. for approximately $320 million. These proceeds are expected to be used for debt reduction and share repurchases.

The three largest detractors in the quarter were:

KB Home (NYSE:KBH) (KBH - $33.52 – NYSE) is one of the nation's leading homebuilders and the industry has seen a strong rebound in activity that resulted from the pandemic-related issues. is set high expectations for KB Home heading into the quarter. It beat consensus estimates, raised prices to help offset expected cost inflation, and reported a solid gain in backlog. Forward guidance, however was weaker than expected partly due to strong demand putting pressure on community counts and lingering issues with the pandemic elongating the normal build cycle. The medium-term outlook for homebuilders remains favorable supported by record low mortgage rates.

Alpine Income Properties (NYSE:PINE) (PINE - $14.99 – NYSE) is a real estate investment trust that owns four dozen single-tenant commercial properties. Alpine has done a solid job of executing on the acquisition and growth strategy that the company laid out when it went public in late 2019. In the quarter, Alpine shares lagged its peers not due to poor execution or missing earnings. Instead, shares underperformed because of its small size and relatively low liquidity, and also due to its concentrated exposure to the retail sector.

Cactus Inc. (NYSE:WHD) (WHD - $26.07 - NYSE) is a leading supplier of wellheads for onshore oil & gas wells. Despite reporting a strong third quarter where the company demonstrated significant market share gains, the stock retreated late in the quarter due to nervousness about OPEC-plus potentially increasing global production starting in February. We believe Cactus is unique to its industry as it has the ability to keep growing market share as competitors exit the market. In addition, it has no debt on its balance sheet.


In conclusion, thank you for your investment in the KEELEY Small Cap Dividend Value Fund. We will continue to work hard to justify your confidence and trust.

This summary represents the views of the portfolio managers as of 12/31/20. Those views may change, and the Fund disclaims any obligation to advise investors of such changes. For the purpose of determining the Fund's holdings, securities of the same issuer are aggregated to determine the weight in the Fund. Portfolio holdings are subject to change without notice and are not intended as recommendations of individual securities.

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