Royce Pennsylvania Mutual Fund Manager Commentary
article 12-31-2022

Royce Pennsylvania Mutual Fund Manager Commentary

As we celebrate Chuck Royce’s 50th anniversary managing the Fund, we were pleased that our flagship maintained its long-term advantages over its small-cap benchmark, the Russell 2000 Index, by losing less in 2022 and beating the small-cap index for the three-, five-, 20-, 25-, 30-, 35-, and 40-year periods ended 12/31/22.


Fund Performance

Our flagship, Royce Pennsylvania Mutual Fund, maintained its long-term advantages over its small-cap benchmark, the Russell 2000 Index, by losing less in 2022, -17.1% versus -20.4%.

The Fund also outperformed the small-cap index for the three-, five-, 20-, 25-, 30-, 35-, and 40-year periods ended 12/31/22. So, while a negative return year is never welcome, we were pleased that Penn lost less than its benchmark and were equally pleased to celebrate 50 years of Chuck Royce’s portfolio management in 2022.

What Worked… And What Didn’t

Nine of the Fund’s 10 equity sectors finished the year in the red, with the largest detractions coming from Information Technology, Consumer Discretionary, and Financials. Energy made a small positive contribution while the smallest detractions came from Consumer Staples and Materials. Two areas in Information Technology—semiconductors & semiconductor equipment and electronic equipment, instruments & components—detracted most at the industry level, followed by banks from Financials. Each was among the Fund’s five largest industry weightings at the end of 2022—and the two industries from tech were also significantly overweight versus the Russell 2000. All three exposures indicate our long-term confidence in spite of their stock price declines in a bearish 2022. Penn’s top-contributing industries were the metals & mining group in Materials, communications equipment in Information Technology, and energy equipment & services in Energy.

The Fund’s top detractor was Triumph Financial, a Texas-based community bank with a leading share in factoring receivables for the trucking industry and an innovative and expanding payments platform that serves the same industry. Spot rates in the trucking market, which impact the dollar amounts of receivables factored, began to decline in 2022, pressuring earnings, while a one-off credit issue also spooked investors. Moreover, we think the stock’s elevated multiple (after a strong 2021) hurt performance in a bearish environment with rising rates. Mesa Laboratories develops and manufactures electronic measurement instruments for industrial and hemodialysis customers. Mesa’s results were depressed by higher labor costs in its sterilization and disinfection segment and lost sales in its clinical genomics business in China due to Covid lockdowns. While management took actions to address its issues, we were concerned by the stock’s lofty valuation and Mesa’s strategy of continuing to shift its portfolio exposure toward faster-growing health care markets that will require additional expensive and dilutive acquisitions and therefore reduced our stake.

The portfolio’s top contributor was Valmont Industries, which manufactures fabricated metal and concrete pole and tower structures as well as mechanized irrigation systems. Demand across all segments was strong in 2022, with Infrastructure seeing continued investments in utility grid resilience, clean energy solutions, lighting and transportation infrastructure upgrades, and telecommunications infrastructure driven by 5G rollout. Within Agriculture, strong farm sentiment and demand for irrigation equipment and precision agricultural solutions drove record income. Valmont is executing on a record global backlog, reflecting continued strong end market demand. Haemonetics Corporation is a global healthcare company that specializes in blood and plasma collection and transfusion services. Despite a myriad of events and pressures over the past several years, plasma collection showed a robust recovery due to the rising collection requirements needed to replenish inventory, increased donor activity, and favorable pricing strategies.

Our relative advantage came entirely from stock selection in 2022 as sector allocation was slightly negative. Eight equity sectors contributed to outperformance. At the sector level, both our lower exposure and stock selection helped in Health Care while in Industrials stock selection and our higher weighting keyed outperformance, as did stock picking in Information Technology. Conversely, relative results were hurt most by our lower exposure to Energy, along with our lack of exposure to Utilities, and a combination of stock picks and our lower weighting in Consumer Staples.

Top Contributors to Performance 20221 (%)

Valmont Industries0.40
Haemonetics Corporation0.39
Meridian Bioscience0.27
Digi International0.25
Catalyst Pharmaceuticals0.23

1 Includes dividends

Top Detractors from Performance 20222 (%)

Triumph Financial-0.56
Mesa Laboratories-0.55
MKS Instruments-0.44
Forrester Research-0.43

2 Net of dividends

Current Positioning and Outlook

The Russell 2000 fell -31.9% from 11/8/21 through the bottom on 6/16/22, which places it at the average of Russell 2000 downturns of 15% or more since the index’s inception. Over that 44-year span, only three bear markets went markedly deeper than this one by falling at least another 10%. Each was exacerbated by a monumental negative event: the Great Financial Crisis led to small-cap losses of -58.9% from 7/13/07-3/9/09; the bursting Internet Bubble saw the Russell 2000 down -44.1% from 3/9/00-10/9/02; and the Covid pandemic deepened the small-cap index to a decline of -41.8% from 8/31/18-3/18/20. As difficult as these markets were, each presented investors with an important opportunity to build their small-cap allocation because in each case the subsequent recovery was robust—but it was much more rewarding for those who stayed invested. Regardless of what happens in the near term, then, we see the current period of uncertainty as a highly opportune time to actively invest in select small caps for the long run.

Average Annual Total Returns Through 12/31/22 (%)

QTR1 YTD1 1YR 3YR 5YR 10YR 15YR 20YR 25YR 35YR 45YR
Pennsylvania Mutual 10.24-17.06-17.064.915.718.737.089.599.0710.4012.18
Russell 2000 6.23-20.44-20.443.

Annual Operating Expenses: 0.96

1 Not annualized.

Important Performance and Disclosure Information

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 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, other expenses, and acquired fund fees and expenses. 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.

Current month-end performance may be obtained at our Prices and Performance page.

Notes to Performance and Other Important Information

The thoughts expressed in this report concerning recent market movements and future prospects for small company stocks are solely the opinion of Royce at December 31, 2022, 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 December 31, 2022 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 12/31/22, the percentage of Fund assets was as follows: Valmont Industries was 1.4%, Haemonetics Corporation was 1.4%, Meridian Bioscience was 0.0%, Digi International was 0.7%, Catalyst Pharmaceuticals was 0.2%, Triumph Financial was 0.4%, Mesa Laboratories was 0.6%, FormFactor was 0.7%, MKS Instruments was 0.6%, Forrester Research was 0.8%.

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.

All indexes referred to are unmanaged and capitalization weighted. Each index’s returns include net reinvested dividends and/or interest income. 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 Index is an 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 2000 Value and Growth Indexes consist of the respective value and growth stocks within the Russell 2000 as determined by Russell Investments. The Russell Microcap Index includes 1,000 of the smallest securities in the Russell 2000 Index, along with the next smallest eligible securities as determined by Russell. The Russell 2500 is an unmanaged, capitalization-weighted index of the 2,500 smallest publicly traded U.S. 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. Source: MSCI. MSCI makes no express or implied warranties or representations and shall have no liability whatsoever with respect to any MSCI data contained herein. The MSCI data may not be further redistributed or used as a basis for other indexes or any securities or financial products. This report is not approved, endorsed, reviewed or produced by MSCI. None of the MSCI data is intended to constitute investment advice or a recommendation to make (or refrain from making) any kind of investment decision and may not be relied on as such. The MSCI ACWI Small Cap Index is an unmanaged, capitalization-weighted index of global small-cap stocks.The MSCI ACWI ex USA Small Cap Index is an index of global small-cap stocks, excluding the United States.The performance of an index does not represent exactly any particular investment, as you cannot invest directly in an index. Returns for the market indexes used in this report were based on information supplied to Royce by Russell Investments. Royce has not independently verified the above described information.

This material contains forward-looking statements within the meaning of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), that involve risks and uncertainties, including, among others, statements as to:

-the Funds’ future operating results,

-the prospects of the Funds’ portfolio companies,

-the impact of investments that the Funds have made or may make, the dependence of the Funds’ future success on the general economy and its impact on the companies and industries in which the Funds invest, and

-the ability of the Funds’ portfolio companies to achieve their objectives.

This discussion uses words such as “anticipates,” “believes,” “expects,” “future,” “intends,” and similar expressions to identify forward-looking statements. Actual results may differ materially from those projected in the forward-looking statements for any reason.

The Royce Funds have based the forward-looking statements included in this commentary on information available to us on the date of the commentary, and we assume no obligation to update any such forward-looking statements. Although The Royce Funds undertake no obligation to revise or update any forward-looking statements, whether as a result of new information, future events, or otherwise, you are advised to consult any additional disclosures that we may make through future shareholder communications or reports.

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. Smaller-cap stocks may involve considerably more risk than larger-cap stocks. (Please see ""Primary Risks for Fund Investors"" in the prospectus.)



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