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By Bridget B. Hughes, CFA | 06-21-2012 05:00 PM

Want Dividends? Look Outside the U.S.

Royce Funds' David Nadel discusses how non-U.S. cultures influence dividend payers, why Europe thrives on exports to emerging markets, and a growth story in Africa.

Bridget Hughes: Hi. I am Bridget Hughes. I am one of the mutual fund analysts here at Morningstar, and I am here with David Nadel at the 2012 Morningstar Investment Conference.

Thanks David for joining us.

David Nadel: Thanks for having me, Bridget.

Hughes: David, you joined Royce in 2006 to kind of help with the international offers. I was just curious in the past six years, how have things gone on that front and how has Royce as a firm changed, which is predominantly a U.S.-focused small-cap investment shop, to bringing in international resources?

Nadel: Well, Royce has been investing in smaller companies for 40 years and started to invest in non-U.S. smaller companies in the late 1990s, so about 12 or 13 years ago. And I joined in 2006, and essentially what's happened since my arrival is we have more or less institutionalized the approach to investing outside the U.S. So, we now invest abroad in all the same sectors that we've invested in domestically.

We've also grown out a team of portfolio managers and analysts numbering six on that side, and then one trader plus supportive, basically a half of another person, on the trading side. So, we really have a full kind of infrastructure; we opened up an office in London for our British analyst, who covers our Eastern Europe, Middle East, and Africa region for us. That's essentially the progress that we've made.

When I joined in 2006, non-U.S. companies I think constituted about roughly 4% or 5% of the assets under management at Royce and they are now closer to 15% or 16% of the AUM. So, Royce is still primarily a domestically focused small-cap manager. But we have an offering of seven non-U.S. funds, and we have worked also a number of international companies into the well-known domestically oriented portfolios that Royce has been known for, for many decades.

Hughes: You're a manager or comanager on several of the funds, one of them being the Global Value Fund.

Nadel: Correct.

Hughes: So I thought maybe we could talk about as you look at the world--that has a pretty flexible geographic mandate--where are you busiest? Where are you seeing the best opportunities?

Nadel: Well, in the context of the Royce Global Value fund, the opportunities have changed since we launched the fund. I think when we launched the fund in the very beginning of 2007, the world was certainly embracing risk and investors really had to pay a premium for non-U.S. companies over U.S. companies at that time. And emerging-markets companies were very hot, so they were the most expensive. And we found a relatively strong value in companies that were based in the U.S.

So, when we launched the fund, we had about a 50% weighting in the U.S. About half of the assets were domiciled in the U.S., and in the wake of the global economic crisis, 2008, fall of 2008-spring of 2009, there was enormous wash-out of emerging-markets companies and European companies, more so than in the U.S. Suddenly, valuations became much more attractive outside the U.S., and we moved within a matter of a couple of quarters from about a 50% U.S. weighting to about a 15% U.S. weighting.

The opportunities do shift, but there are certain themes which have been consistent in this portfolio since the get-go, which is that we want to be quality-focused, as all of Royce is, and so we do have a bias in favor of companies that are based into the developed markets, selling to the emerging markets. Where we invest directly in the emerging markets, we like long operating histories; we like companies that have a good disclosure and good corporate governance. So, that part doesn't change.

But with opportunities in individual markets, there are certain catalysts that can really change the profile. I guess another example I'd cite is Japan. We were visiting companies in Japan in March of last year, and we were actually leaving the country when the earthquake struck. At that time in the Royce Global Value fund, we had about a 6% weighting in Japan, and we came back and doubled that weighting because our conviction had not changed really in these companies, but the Nikkei of course after it was closed for a couple of days opened sharply down.

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