Fund Performance

Royce Capital Fund–Small-Cap Portfolio was down -2.7% for the year-to-date period ended 6/30/24, behind its small-cap benchmark, the Russell 2000 Value Index, which was down -0.8% for the same period. The Fund held on to its longer-term advantages, however, beating its benchmark for the 1-, 3-, 5-, 20-, 25-year, and since inception (12/27/96) periods ended 6/30/24.

What Worked... and What Didn’t

Seven of the portfolio’s 10 equity sectors made a negative impact on first-half performance, with the largest detractions coming from Financials, Consumer Discretionary, and Communication Services while the largest positive impacts came from Energy, Information Technology, and Industrials. At the industry level, banks (Financials), media (Communication Services), and health care providers & services (Health Care) detracted most for the year-to-date period, while oil, gas & consumable fuels (Energy), pharmaceuticals (Health Care), and electronic equipment, instruments & components (Information Technology) were the largest contributors.

The position that detracted most in 2024’s first half was Bloomin’ Brands, a consortium of casual dining restaurants that includes Outback Steakhouse and Carrabba’s Italian Grill. Spending by middle- and lower-income consumers has been slowing. Along with the retirement of the company’s CEO in May, this dynamic has put pressure on its shares. We trimmed our stake in the first half of 2024. We were less confident in the long-term prospects for Cross Country Healthcare, which provides healthcare staffing services such as travel and per diem nurses and clinical research trials staffing. The company over-earned during the pandemic and the wait for its business to normalize has been much longer than we were anticipating, so we reduced our position in the first half.

We exited our position in Ryerson Holding—which purchases, processes, and distributes various forms of stainless steel, aluminum, carbon, alloy steel, nickel, and red metals—as weakness in many of its end markets pressured margins. We also chose to sell our stake in Entravision Communications, a small, diversified media company that focuses on television and radio broadcasting, primarily targeting Latino audiences in the U.S., as well as digital advertising where the company acts as a sales agent in emerging markets for large social media companies. In March, the company announced that Meta was planning on bringing its sales effort in house and would be terminating its relationship with Entravision. This led to a sell off since Meta represented both a significant amount of Entravision’s revenues and an area of future growth. We had greater conviction in the long-term prospects for Haverty Furniture, which sells items like bookcases, office chairs, file cabinets, lamps, pillows, chests, display cabinets, and tables. Like Bloomin’ Brands, its business has seen sluggish demand due to reduced consumer activity. The company continues to execute effectively in the currently more challenging climate, which—along with its attractively inexpensive valuation, led us to increase our stake in the first half of 2024.

The top contributor at the position level was SIGA Technologies, a commercial-stage pharmaceutical company that offers an oral formulation of an antiviral drug for the treatment of human smallpox and monkey pox. Much of its business is in government contracts, and its long-term earnings pattern is lumpy and volatile—which likely accounts for it being thinly traded. In early May, SIGA announced strong Q1 results, with product revenues of $24 million and pre-tax operating income of $11 million, both exceeding the comparable quarter in 2023. Flex is an electronics manufacturing services company that designs and develops original design manufacturing (ODM) products for several industries, including aerospace & defense, cloud, digital health, lighting, housing, energy, industrial, and communications. Flex’s stock has moved higher thanks to strong earnings and revenues so far in 2024. In May, the company also raised revenue and earnings per share guidance for fiscal 2025.

Popular home goods retailer Williams Sonoma—which also operates the Pottery Barn and West Elm brands—has maintained impressive margins even as sales have cooled, which appeared to attract investors in an otherwise rough first half for many retailers. Family footwear retailer Shoe Carnival also bucked the trend, announcing higher than expected net sales growth, along with gross profit margin expansion and better-than-expected earnings in May. Sanmina Corporation provides electronics contract manufacturing services to a global customer base. The company has been challenged by inventory overhangs in networking and communications gear, but earnings have surprised on the upside so far in 2024, keeping the market interested in its shares.

The portfolio’s disadvantage versus its benchmark was due to stock selection in the year-to-date period ended 6/30/24—our sector allocation decisions were additive. At the sector level, stock selection and, to a lesser degree, our lower weight in Materials hurt most, followed by stock selection in Communication Services and Consumer Discretionary sectors. Conversely, stock selection in Information Technology, significantly lower exposure to Real Estate, and greater exposure and stock selection in Energy contributed most to relative results.

Current Positioning and Outlook

As of the end of June, not much had changed in the market’s dynamics over the last several months. The concentration of market leadership among the Magnificent Seven has been an unhealthy phenomenon, though it is not clear when this large-cap outperformance cycle will end. July offered a welcome reversal of this trend, but we will have to wait and see if small-cap’s nascent leadership can be sustained. For now, large-caps remain in the leadership position over longer-term periods. As some small-cap valuations moved lower in 2Q24, we have been looking at more names than we have in a while. Regarding rates, ‘higher for longer’ looks increasingly likely to extend its stay. It’s possible that we will see no more than one rate reduction before the end of the year—and we may not see any. Inflation, while moderating, has still not come down to the sustained 2% level that the Fed has repeatedly said it needs to see before reducing rates. One can add this to many other uncertainties around geopolitics, the elections, employment, and the pace of economic growth. In this uncertain climate, portfolio positioning has not shifted much. The Fund’s largest sector weightings at the end of June were Consumer Discretionary, Industrials, Financials, and Information Technology—with each except Financials having a higher weight relative to the Russell 2000 Value. Seeing challenges for the market and economy in the months ahead, we are happy to hold many high-quality companies with strong balance sheets and positive cash flows.

Average Annual Total Returns Through 06/30/24 (%)

Annual Operating Expenses: 1.15

¹ Not annualized.

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