PNC Small Cap Fund (class I)1 returned 4.14% in the second quarter versus a return of 7.75% for the benchmark, the Russell 2000 Index.
In the broader market, the second quarter was dominated by trade tariff proclamations and the effect of the tariffs, not only on corporations, but also on the global economy as a whole. It appeared the market deemed small-capitalization companies relative winners in this environment filled with protectionist rhetoric, given their outsized exposure to U.S.-based revenues, relative to their large-capitalization brethren and passive investors appeared to shift allocations to small caps, as measured by exchange-traded fund flows.
In addition to the dominance of small capitalizations over large, the second quarter was also marked by a rotation from growth to value within the small-capitalization universe. The Russell 2000 Value Index outperformed the Russell 2000 Growth Index by close to 1% in the second quarter—a reversal of Growth’s dominance in the first quarter of 2018. This environment is reminiscent of what the Index experienced around the middle of 2016. During that period, value handily outperformed growth, low quality stocks rallied, and again, the smallest of the small-capitalization performed quite well.
For the Fund, the largest overweight is to Industrials, followed by Financials and Consumer Discretionary. Within Industrials, our overweight is concentrated in professional services, aerospace and defense, and building products companies. Financials included an overweight to consumer finance, insurance, and capital markets companies. The focus within Consumer Discretionary is on the auto components, household durables, and specialty retail industries.
The largest sector underweights in the Fund are in Health Care and Information Technology. Health Care investments consist of a provider of staffing services to hospitals and health-care facilities and a food and animal safety testing products company. While the biotechnology and pharmaceutical industries made up over half the Health Care weight in the Russell 2000 Index, the Fund does not have any exposure to these industries. In general, companies within these industries tend not to fit the investment criteria, due to their tendency to either lack consistent, recurring revenue or cash flow, or their dependency on a single product for a majority of revenue generation. The Information Technology investments are mainly in the software, services, and electronic equipment industries, with no exposure to the semiconductor and communications equipment groups. Finally, the portfolio does not have exposure to the Energy, Consumer Staples, Telecommunication Services, or Utilities sectors.
1Effective May 17, 2018, PNC Small Cap Fund reopened to new investors.