Royce spotlights small caps to invest in during a bear market

Portfolio managers of multiple funds within Royce Investment Partners, the firm founded by Wall Street legend Chuck Royce, have highlighted six small caps to buy during a bear market. Some of them are poised to benefit from the tariffs imposed by the Trump administration, while others are likely to be merely unaffected by them.

Portfolio managers of the Royce Small-Cap Total Return Fund (which invests in companies that return capital to shareholders through dividends or buybacks) believe that auto parts retailer Advance Auto Parts, with a market capitalization of $1.85 billion, stands to benefit from the Trump-imposed tariffs. First, due to expected increases in car prices, Americans are likely to hold on to their vehicles longer. As a result, the average car age, which is already at a record high, is likely to rise even higher, driving up demand for auto parts. Second, although procurement costs for retailers are expected to increase, they are likely to pass these on to consumers, thus preserving gross margins.

Investors, however, are not particularly upbeat on Advance Auto. The stock has tumbled almost 36% since early February, while its main rivals — O’Reilly and AutoZone — have been gaining. “We view this disconnect as an excellent long-term opportunity,” the Royce managers said.

Tariffs are also unlikely to significantly affect Standard Motor, a manufacturer and distributor of replacement parts in the automotive aftermarket with a market capitalization of $531.2 million, according to the managers of the Royce Small-Cap Special Equity Fund (which invests in companies with steady earnings and conservative management). While one of Standard Motor’s plants is located in Mexico, its products still fall under a trilateral agreement between the U.S., Mexico, and Canada, which exempts them from higher tariffs. Moreover, demand for used car parts is typically countercyclical, as consumers replace vehicles less frequently during downturns — the same trend that applies to Advance Auto Parts’ business.

The business of Healthcare Services — a provider of cleaning and food services in the healthcare sector with a market capitalization of $696.3 million on the Nasdaq — is not exposed to tariffs. Demand for its services is driven by elderly Americans moving into nursing facilities, which is a demographic trend, as noted by Royce.

The Royce Small-Cap Total Return Fund managers point out that Healthcare Services stock is trading at its lowest EV/EBITDA multiple ever. While its 2024 revenue of $1.73 billion was in line with analyst expectations, earnings per share disappointed, according to Simply Wall St.

Still, the Royce managers believe that over time, investors will recognize the company’s potential and its relative insulation from the broader macroeconomic risks, which should translate into a higher multiple.

Bio-Techne, a producer of reagents and analytical instruments for drug developers with a $7.9 billion market capitalization, manufactures almost 90% of its products in the U.S. Because of this, tariffs may have only a short-term effect on the company, that being attributable to the fact that around 40% of its sales come from outside of the U.S., according to the portfolio managers of the Royce Premier Fund (which invests in companies with low debt and the ability to generate excess cash flow). It is also important to note that Bio-Techne’s products are considered critical, meaning they could be exempt from tariffs altogether, the managers add.

The stock is down more than 30% for the year to date, but it should bounce back in the long term, according to the Royce Premier Fund managers. They believe investors are underestimating the trends working in Bio-Techne’s favor, such as an aging population and increasing automation in diagnostics.

Shares of Gaztransport Et Technigaz, a France-based designer of systems for the maritime transportation of LNG, and Rightmove, a UK-based online real estate platform, are traded outside of the U.S.

Gaztransport Et Technigaz is immune to tariffs because its products are critical — more than 70% of LNG carriers worldwide are equipped with its technology, note portfolio managers of the Royce International Premier Fund, which invests in non-U.S. assets. Moreover, the company does not manufacture the systems, the managers point out, but rather designs them and receives license fees for them, resulting in a high free cash flow margin and a strong balance sheet.

Meanwhile, Rightmove is focused on the UK domestic market and ranks as the fourth most-visited website in the country. Real estate agents pay a subscription fee to post listings. They basically have no choice, as the Royce International Premier Fund managers note, since Rightmove drives almost all their leads. The company boasts high free cash flow margins and a management team that thoughtfully allocates excess cash to new growth initiatives, share buybacks, and dividends.