Past performance is no guarantee of future results. Investment return and principal value will fluctuate so that shares, when redeemed, may be worth more or less than their original cost. Current performance may be lower or higher than that shown here.
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The views expressed in this investment report represent the opinions of PNC Capital Advisors, LLC and are not intended to predict or depict performance of any investment. All information contained herein is for informational purposes and should not be construed as investment advice. It does not constitute an offer, solicitation or recommendation to purchase any security. The information herein was obtained by various sources; we do not guarantee its accuracy or completeness. Fund performance quoted above is for class I shares. Past performance does not guarantee future results. These views are as of the date of this publication and are subject to change based on subsequent developments.
Investments in small-capitalization companies present greater risk of loss than investments in large companies. Investments in value companies can continue to be undervalued for long periods of time and be more volatile than the stock market in general. Investments in growth companies can be more sensitive to the company's earnings and more volatile than the stock market in general. International investments are subject to special risks not ordinarily associated with domestic investments, including currency fluctuations, economic and political change and differing accounting standards that may adversely affect portfolio securities. These risks may be heightened in emerging markets.
PNC Small Cap Fund (Class I)1 returned 3.98% in the third quarter versus a return of 3.58% for the benchmark, the Russell 2000 Index.
During the quarter, overall stock selection contributed to relative investment results. Specifically, stock selection within the Industrials, Financials, Materials, Real Estate, Information Technology, and Energy sectors contributed, while stock selection within Health Care and Consumer Discretionary detracted. The Fund does not have positions in Consumer Staples, Telecommunication Services, or Utilities.
From a sector allocation perspective, an underweight in Health Care and Information Technology, and an overweight in Financials detracted from relative investment results. The strategy benefitted from an overweight in Industrials and underweights in Energy and Real Estate. The lack of exposure to Telecommunication Services negatively impacted relative performance, while the lack of exposure to Consumer Staples helped.
In the broader market, during the third quarter, investors’ focus seemed to center on the potential effects of various new or threatened trade tariffs on future domestic and global growth, further Federal Reserve interest rate increases, and macroeconomic data that showed the domestic economy continued to strengthen. Corporate earnings continued to grow and the unemployment rate hit a multi-decade low of 3.7% in September. We are seeing these trends play out in the companies we have invested in. While top-line growth continues to trend favorably, in certain cases, margins have been hit on higher raw material prices, due to the effects of trade tariffs in China, Mexico, and Canada, as well as tight labor markets. In our view, the balance sheets of our portfolio companies remain in excellent shape, and although interest rates have increased, rates remain at levels that are quite low from a historical standpoint.
From a style perspective, the Russell 2000 Growth Index came roaring back during the third quarter after lagging its value counterpart in the second quarter, posting gains of 5.52% compared to the Russell 2000 Value Index which showed returns of 1.60%. Thus far in 2018, growth has handily outpaced value, with the Russell 2000 Growth Index returning 15.76% while the Russell 2000 Value Index returned 7.14%. The core Russell 2000 Index gained 3.58% in the third quarter and was, once again, boosted by gains in the Health Care and Information Technology sectors—a trend that has been consistent thus far throughout the first nine months of 2018.
As managers who focus on fundamental, bottom-up stock selection, market themes do not impact our portfolio management decisions. However, the Tax Cuts and Jobs Act has led to an average 10 percentage point decrease in the effective tax rate for our portfolio companies. Due to our cash-flow centered investment philosophy and process, we are laser-focused on how our companies’ management teams put any cash tax savings to work. Given that we seek companies that can increase their cash flow return on investment, and we have a clear focus on financial drivers, such as sales growth, we would expect to outperform in broad-based, growth-led markets. We believe there is a continued focus in the market on company fundamentals and expect this trend to continue over the near term. A market that rewards companies based on fundamentals is a more favorable environment for our strategy.
1Effective May 17, 2018, PNC Small Cap Fund reopened to new investors.