What the Fund Does

We have been managing our flagship portfolio, Royce Small-Cap Fund, since 1972.

In selecting stocks for the Fund, our portfolio management team uses a multi-discipline approach that offers exposure to strategies that have performed well in previous market environments. The Fund’s five portfolio managers, Jay Kaplan, Miles Lewis, Steven McBoyle, Andrew Palen, and Lauren Romeo, pursue distinct investment approaches, though we generally focus on small-cap stocks that possess above-average profitability, low leverage, and what we think are attractively cheap valuations. My role is to monitor and occasionally adjust the Fund’s allocations across the different segments of the portfolio.

The investment disciplines we use include:

• High Quality, which looks for companies that have high returns on invested capital and that we see as having significant competitive advantages.
• Emerging Quality, where we look for companies that are newer in their lifecycle but that we believe can become High Quality in the future.
• Traditional Value, long a mainstay here at Royce, looks for companies trading at prices below our estimate of their current worth.
• Quality Value, which focused on companies with attractive profit margins, strong free cash flows, and lower leverage that also trade at what Royce believes are attractive valuations.

Performance Update

The Fund rose 19.2% in 2Q26, lagging its benchmark, the Russell 2000 Index, which was up 21.5% for the same period. Longer-term results were stronger. The Fund advanced 23.8% for the year-to-date period ended 6/30/26, outperforming the Russell 2000 Index’s 22.6% gain for the same period. The Fund also beat the small-cap index for the 5-, 10-, 20-, 30-, 35-, 40-, and 45-year periods ended 06/30/26. The Fund’s average annual total return for the 50-year period ended 6/30/26 was 13.0%.

2Q26 Attribution

Nine of the portfolio’s 10 equity sectors made a positive impact on quarterly performance, led by Information Technology, Industrials, and Financials. The only negative impact came from Energy. At the industry level, semiconductors & semiconductor equipment (Information Technology), machinery (Industrials), and electronic equipment, instruments & components (Information Technology) contributed most for the quarter, while the largest detractors were metals & mining (Materials), oil, gas & consumable fuels (Energy), and paper & forest products (Materials).

The portfolio’s disadvantage versus the Russell 2000 was attributable to stock selection in 2Q26. At the sector level, stock selection in Financials, Health Care (where our lower exposure also hurt), and Industrials detracted the most from relative performance, while our much lower weighting in Energy, lack of exposure to Utilities, and stock selection in Materials and Consumer Staples helped most vis-à-vis the benchmark.

Year-to-date through 6/30/26 Attribution

Eight of the Fund’s 10 equity sectors finished the first half of 2026 in the black, led by Information Technology, Industrials, and Financials. Health Care and Real Estate made the only negative impacts. At the industry level, semiconductors & semiconductor equipment (Information Technology), machinery (Industrials), and electronic equipment, instruments & components (Information Technology) contributed most for the year-to-date period, while software (Information Technology), professional services (Industrials), and health care equipment & supplies (Health Care) were the largest detractors.

For the year-to-date period ended 6/30/26, our advantage over the Russell 2000 was attributable to both sector allocation decisions and stock selection, with the former making the bigger impact. At the sector level, stock selection and, to a lesser extent, the portfolio’s larger weighting in Information Technology made by far the biggest positive impact, followed by stock selection in Materials, and a lack of exposure to Utilities, which underperformed within the Russell 2000. Conversely, stock selection in Health Care, Financials, and Energy hurt relative performance most.

Current Positioning and Outlook

Our biggest sector weights at the end of June were Industrials, Financials, and Industrials, each also overweighted versus the Russell 2000. Despite the strong performance of small- and micro-cap stocks over the last year-plus, each asset class finished June with more attractively inexpensive valuations than their large-cap peers based on our preferred index valuation measure, EV/EBIT, or enterprise value over earnings before interest & taxes. This metric shows that valuations for the Russell 2000 were still close to their lowest levels versus the Russell 1000 in 25 years at the end of June, while the Russell Microcap Index also had markedly lower valuations than the Russell 1000 at the end of June.

Of course, earnings growth ultimately drives long-term returns—and in that regard the news is also positive, with earnings fundamentals continuing to improve for many small- and micro-cap companies. To be sure, consensus estimates are pointing to faster earnings growth ahead (as they have for the last several months). Equally important, we are enjoying a sweet spot between owning holdings that are doing well while also finding what we think are excellent long-term opportunities in the wide and diverse selection universe of small- and micro-cap stocks. To this point, we think it’s important to note that, while much is made of the fact that more than 40% of the companies in the Russell 2000 have no earnings, the small- and micro-cap universe still has more profitable companies than the Russell 1000 or S&P 500 Indexes. This combination of relatively more attractive valuations and ongoing earnings strength bolsters our conviction that the current environment continues to offer many compelling opportunities for active, fundamentals-driven investors with a long-term horizon.

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