Small-Cap Premier Quality Strategy—4Q23 Update and Outlook
article 01-23-2024

Small-Cap Premier Quality Strategy—4Q23 Update and Outlook

Co-Lead Portfolio Managers Lauren Romeo and Steven McBoyle update investors on the Strategy’s strong year in 2023 while providing a bright outlook for U.S. small-cap quality.


How did the Small-Cap Premier Quality Strategy perform in 4Q23 and the year as a whole?

Lauren Romeo: The mutual fund we manage in the Strategy, Royce Premier Fund, advanced 12.6% for the quarter, lagging its benchmark, Russell 2000 Index, which was up 14.0% for the same period. However, the Fund beat the Russell 2000 in 2023, up 22.5% versus 16.9%. The portfolio also outperformed its benchmark for the 3-, 5-, 10-, 15-, 20-, 25-, 30-year, and since inception (12/31/91) periods ended 12/31/23. We’re very pleased with the Fund’s results.

How did Fund’s results break down on a sector basis in 4Q23?

Steven McBoyle: All of the portfolio’s nine equity sectors made a positive impact on quarterly performance, with the largest positive contributions coming from Industrials, Materials, and Information Technology while the smallest positive impacts came from Communication Services, Consumer Staples, and Health Care.

What happened at the industry level in 4Q23?

LR: Machinery, which is in Industrials, capital markets from Financials, and chemicals, which is in Materials, contributed most in the quarter, while automobile components in Consumer Discretionary, professional services in Industrials, and health care equipment & supplies from the Health Care sector were the largest detractors.

How did the Fund perform relative to the Russell 2000 on a sector basis in 4Q23?

SM: The portfolio’s disadvantage versus its benchmark was attributable to stock selection in the quarter, most impactfully in Financials and Health Care—and our lower weightings also detracted in both sectors. Stock selection also hurt in Consumer Discretionary. Conversely, our lack of exposure to Energy and stock selection in Materials and Information Technology contributed most to relative quarterly results.

How did the Fund perform at the sector level in 2023?

LR: Eight of the portfolio's nine equity sectors made a positive impact on calendar year performance, led by Industrials, Information Technology, and Materials. Communication Services was the only sector that detracted from performance while the smallest contributions came from Health Care and Real Estate.

What were the biggest industry contributors and detractors in 2023?

SM: Machinery, capital markets, and semiconductors & semiconductor equipment companies in Information Technology contributed most while the top detractors were two areas in Industrials—air freight & logistics and professional services—followed by interactive media & services from Communication Services.

Which holding contributed most for the year-to-date period ended 2023?

LR: Stella-Jones was the portfolio’s top contributor at the position level in 2023’s first half. The company dominates the railway tie and wood utility pole markets and has a growing residential treated lumber business. Stella-Jones has benefited from strong lumber prices and healthy home repair/remodel activity while demand for its rail ties remains largely recession-resistant as some percentage of the installed base is replaced annually as part of railroad track maintenance. Further bolstering growth was increased demand for utility poles largely driven by expanding broadband networks, the robust renewable energy sector, and growing electric vehicle sales—each a key driver in leading utilities to strengthen their electrical grids.

Which holding detracted most from performance in 2023?

SM: Premier’s top detractor was Valmont Industries, which makes products for the infrastructure and agricultural markets, including those used in utility grid resilience, solar energy, upgrades to lighting and transportation infrastructure, and the 5G rollout. The company’s Agriculture Technology unit was hampered by slower growth and lower-than-expected adoption rates, while the firm was also facing more widespread inflationary pressures and lower sales in its telecom business. To address these issues, Valmont initiated an organizational realignment that entailed executive leadership changes designed to improve efficiency and streamline decision-making. These moves created some subsequent short-term disruptions and uncertainty, which helped drive its stock price down.

What were the sources of the Fund’s advantage over the Russell 2000 in 2023?

LR: Premier’s advantage over its benchmark came from both sector allocation and stock selection, with the former having the bigger impact. Altogether, nine of 11 equity sectors finished the year ahead of the benchmark, led by stock selection in Materials, Financials, and Information Technology, while stock selection detracted in Communication Services and Consumer Discretionary.

What is your outlook?

LR: 2023 marked the seventh consecutive year that small-cap lagged large-cap—which has created a relative valuation gap that is almost two standard deviations below the norm, an anomaly not seen since the Internet bubble more than 20 years ago. Moderating inflation, the decelerating pace of Fed Fund rate hikes, and a still-expanding economy lend weight to the hope that small-cap’s 4Q23 rally—in which it also outpaced large-caps by 200 basis points—could prove to be the start of a sustained reversion to the mean for relative performance.

While low quality has historically outperformed within small-cap in the early stages of such recoveries, quality factors have led small-cap returns over the long run. The normalization of interest rates over the past two years from artificially low levels adds further support to the case for quality recapturing small-cap leadership. Companies with strong balance sheets and the ability to self-fund their growth from free cash flow generation have been regaining importance in investors’ stock selection decisions. Given the Fund’s focus on buying high-quality small-cap companies, we remain optimistic about its long-term prospects. With conviction built from extensive the due diligence and information sharing that is the backbone of our investment process, we believe our portfolio of premier businesses—those with durable competitive advantages and reinvestment opportunities—can continue to compound shareholder value at attractive rates of return well into the future.

Important Disclosure Information

Average Annual Total Returns as of 12/31/2023 (%)

NET               GROSS
Premier 12.57 22.53 6.42 12.51 8.19 11.25 12/31/91  1.18  1.18
Russell 2000
14.03 16.93 2.22 9.97 7.16 9.17 N/A  N/A  N/A
1 Not annualized.

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.

Ms. Romeo’s and Mr. McBoyle’s thoughts and opinions concerning the stock market are solely their own and, of course, there can be no assurance with regard to future market movements. No assurance can be given that the past performance trends as outlined above will continue in the future. The performance data and trends outlined in this presentation are presented for illustrative purposes only. Past performance is no guarantee of future results. Historical market trends are not necessarily indicative of future market movements.

Percentage of Fund Holdings As of 12/31/23 (%)




Lindsay Corporation


Company examples are for illustrative purposes only. This does not constitute a recommendation to buy or sell any stock. There can be no assurance that the securities mentioned in this piece will be included in any Fund’s portfolio in the future.

Return on Invested Capital is calculated by dividing a company’s past 12 months of operating income (earnings before interest and taxes) by its average invested capital (total equity, less cash and cash equivalents, plus total debt, minority interest, and preferred stock).

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.

Frank Russell Company (“Russell”) is the source and owner of the trademarks, service marks and copyrights related to the Russell Indexes. Russell® is a trademark of Frank Russell Company. Neither Russell nor its licensors accept any liability for any errors or omissions in the Russell Indexes and/or Russell ratings or underlying data and no party may rely on any Russell Indexes and/or Russell ratings and/or underlying data contained in this communication. No further distribution of Russell Data is permitted without Russell’s express written consent. Russell does not promote, sponsor or endorse the content of this communication. 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 performance of an index does not represent exactly any particular investment, as you cannot invest directly in an index.

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. The Fund invests primarily in small-cap stocks, which may involve considerably more risk than investing in larger-cap stocks. The Fund also generally invests a significant portion of its assets in a limited number of stocks, which may involve considerably more risk than a more broadly diversified 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. (Please see "Primary Risks for Fund Investors" in the prospectus.) The Fund may invest up to 25% of its net assets (measured at the time of investment) in securities of companies headquartered in foreign countries, which may involve political, economic, currency, and other risks not encountered in U.S. investments. (Please see "Investing in Foreign Securities" in the prospectus.



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