Royce Micro-Cap Trust Manager Commentary
article 06-30-2023

Royce Micro-Cap Trust Manager Commentary

Royce Micro-Cap Trust beat the Russell 2000 on both an NAV and market price basis for the 1-, 3-, 5-, 10-, 15-, 20-, 25-year, and since inception (12/14/93) periods ended 6/30/23.


Fund Performance

Royce Micro-Cap Trust (“RMT”) advanced 6.5% on an NAV (net asset value) and 5.0% on a market price basis for the year-to-date period ended 6/30/23, versus respective gains of 8.1% and 2.3% for its primary unleveraged benchmark, the small-cap Russell 2000 Index and its secondary benchmark, the unleveraged Russell Microcap Index, for the same period. The Fund beat the Russell 2000 on both an NAV and market price basis for the 1-, 3-, 5-, 10-, 15-, 20-, 25-year, and since inception (12/14/93) periods ended 6/30/23.

What Worked… And What Didn’t

Six of the Fund’s 11 equity sectors made positive contributions to performance in 2023’s first half, led by Industrials, Information Technology, and Health Care while Consumer Staples, Communication Services, and Real Estate were the biggest detractors. At the industry level, semiconductors & semiconductor equipment (Information Technology), machinery (Industrials), and electronic equipment, instruments & components (Information Technology) contributed most, while the biggest detractors were communications equipment (Information Technology), food products (Consumer Staples), and professional services (Industrials).

The top contributor at the position level was CIRCOR International, which makes pumps, valves, and other flow-control products for the aerospace & defense, chemicals, and refineries industries. The company agreed to be acquired by KKR in June at a roughly 50% premium only to have a second suitor make an even better offer later that month. KKR then upped its price. The bidding war sent CIRCOR’s shares soaring. nLIGHT designs and manufactures semiconductor laser products, fiber lasers, direct diode systems, single-emitter, and diode laser stacks. Its stock took off in May when nLIGHT reported revenue and profitability above the midpoint and high end of the company’s previous guidance, even as revenue fell year-over-year across all of the company’s end markets, hurt by lower demand and the timing of development projects.

The top detractor at the position level was telecommunications equipment company, Clearfield, which designs passive connectivity products such as assemblies, panels, and other related products. Although revenue and earnings have been positive, the company has struggled with demand destruction as inventory is digested, most impactfully from order pushouts by several large customers who had built up excess inventory through the pandemic. Mesa Laboratories develops and manufactures electronic measurement instruments for industrial and hemodialysis customers, including pipeline flow meters and calibration instruments. Its shares fell on currency headwinds across the company’s divisions, slower biopharmaceutical spending that affected its Biopharmaceutical Development Division, a significant decrease in Covid-driven revenues, and the loss taken in its high-margin Sema4 business, which is part of Mesa’s Clinical Genomics division.

Relative to the Russell 2000 in 2023’s first half, the Fund was hurt most by stock selection, most impactfully in Materials, Information Technology (where the advantage of our overweight was not enough to overcome the negative effect of stock picking), and Consumer Staples. Offsetting these hindrances to some degree were the positive effects of stock selection in Financials—where our lower weighting in underperforming banks was also critical—our very low weighting in Utilities, and stock selection in Energy.

Top Contributors to Performance Year-to-Date Through 6/30/231 (%)

CIRCOR International1.72
PDF Solutions0.52
Onto Innovation0.49

1 Includes dividends

Top Detractors from Performance Year-to-Date Through 6/30/232 (%)

Mesa Laboratories-0.46
Chicken Soup for the Soul Entertainment Cl. A-0.39
Lindsay Corporation-0.36

2 Net of dividends

Current Positioning And Outlook

We see an array of potential triggers that could jumpstart micro-cap performance in the coming months. First, a soft landing looks more and more likely to us, and a recession—specifically the kind of deep and potentially lengthy contraction many have been anticipating since late 2021—looks less and less likely in our view. We have already seen promising developments that suggest a nascently robust economy: durable goods orders rose for the fourth consecutive month in June—and hit a record high for nondefense capital goods (excluding aircraft or core capital goods, a proxy for business equipment investment)—while homebuilding rose by 21.7% in May, a record monthly surge that also defied expectations for a slowdown. While Artificial Intelligence (“AI”) has seen ample hype, we see it as one more secular trend that is driving demand for semiconductors and processing bandwidth. We believe this plays into our portfolio positioning, as select smaller technology names are providing critical components in this value chain. We view our technology companies as “picks and shovel” providers into a myriad of long-term technology trends while many of our industrial companies are viewed by us as possessing similar characteristics. We also expect many industrial companies to benefit from the increasing use of AI to drive efficiencies in their operations. More significantly, however, we believe many of these large macro trends require substantial infrastructure investments and have underlying government support, one example being the shift to green energy, which requires significant investments in electrical transmission capabilities. While we are excited about our positioning in the intermediate term, we are also cognizant of short-term market pressures, most notably the unprecedented pace of Fed rate hikes. Although inflationary pressures have meaningfully moderated, the Fed remains in a hawkish mode. We believe these pressures are likely to be exacerbated by commercial banks tightening lending standards. We continue to see the currently unsettled period as an opportune time to invest in select micro caps for the long run.

Average Annual Total Returns Through 06/30/23 (%)

RMT 1.724.9815.3016.096.219.598.619.579.279.88
XOTCX (NAV) 3.726.4816.4514.537.179.819.009.859.2810.50
Russell Microcap 5.292.326.639.

Annual Operating Expenses: N/A

1 Not annualized.

Important Performance, Expense, and Disclosure Information

Important Performance and Expense Information

All performance information reflects past performance, is presented on a total return basis, net of the Fund's investment advisory fee, and reflects the reinvestment of distributions. Past performance is no guarantee of future results Current performance may be higher or lower than performance quoted. Returns as of the recent month-end may be obtained at The market price of the Fund's shares will fluctuate, so that shares may be worth more or less than their original cost when sold.

The Fund normally invests in micro-cap companies, which may involve considerably more risk than investing in larger-cap companies. The Fund's broadly diversified portfolio does not ensure a profit or guarantee against loss.

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 June 30, 2023, 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, 2023 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 6/30/23, the percentage of Fund assets was as follows: CIRCOR International was 0.0%, nLIGHT was 2.0%, PDF Solutions was 1.4%, Photronics was 1.1%, Onto Innovation was 1.0%, Clearfield was 0.6%, Mesa Laboratories was 1.6%, Chicken Soup for the Soul Entertainment Cl. A was 0.1%, Cutera was 0.2%, Lindsay Corporation was 0.9%.

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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