April 14, 2023
Dear Fellow Oberweis Funds Shareholder,
FIRST QUARTER PERFORMANCE
I’m pleased to report a strong quarter for the U.S.-focused funds. The Micro-Cap Fund returned 9.07% versus 0.76% for the Russell Microcap Growth Index. The Small-Cap Opportunities Fund returned 11.15% versus 6.07% for the Russell 2000 Growth Index. Among our international funds, the Emerging Markets Fund fared well, returning 7.97% versus 3.87% for the MSCI EM Small-Cap Index. The International Opportunities Fund returned 5.16% versus 5.45% for the MSCI World ex-US Small-Cap Growth Index. The China Opportunities Fund had a difficult quarter, with a return of -2.10% versus 4.71% for the MSCI China Index. The Global Opportunities Fund also experienced strong gains, returning 7.75% versus 4.24% for the MSCI ACWI Small-Cap Index. The Focused International Growth Fund had the strongest absolute return, gaining 10.62% versus 8.47% for the MSCI EAFE Index. While this was a good quarter overall, there is a fair amount of randomness in quarter-to-quarter returns, which can be influenced by factors other than company fundamentals and may not appropriately reflect our stock picking skills. However, random fluctuations over the short-term tend to average out over longer periods as we approach 10 years or more, leaving residual returns that better reflect alpha generation ability. And by that metric, our funds fare very well. All of our funds with at least 10 years of performance history have materially outperformed their benchmarks over that period (specifically, that includes Micro-Cap, Small-Cap, International, China and Global).
MARKET ENVIRONMENT
Global equity markets moved higher for the second consecutive quarter, even in the face of persistent (although lessening) inflation data and banking crises in both Europe and the United States. Policymakers’ basic problem has not changed: how to raise interest rates enough to quell inflation without overshooting and causing a significant recession. While this question remains unsolved, investor expectations have changed markedly. In contrast to last year’s market slump, this quarter’s rally in the face of a slowing economy indicates that investor expectations appear to already largely discount some degree of recession. This is particularly the case for small-cap stocks. Following a decade-long period of large-cap leadership, our research indicates that high-growth small-caps now trade at PE ratios last seen after the 2008 financial crisis (which are far below historical norms). The S&P 500’s valuation has also declined, but is still hovering around its 20-year average level. While the S&P 500 Index is up nearly 18% from its low, small-cap stocks remain in bear territory. The Russell 2000 Index has been stuck in a sideways range since last June and is still down nearly 27% from its peak in November 2021. To be fair, the S&P 500’s rally was bolstered by tech mega-caps like Apple, Microsoft, Alphabet, Amazon, and NVIDIA, which now comprise a whopping 21% of the index. Without these five stocks, returns of the index were much more muted and also appear to already be discounting a difficult economy in 2023.
This dynamic reminds us a bit of the “Nifty Fifty” of the 1970s, when a group of industry-leading but expensive technology companies at the time traded for “can’t lose” valuations after a period of prolonged outperformance, while most other segments of the market were largely ignored. Similarly, that decade was characterized by high inflation and challenging economic growth. The 1973-74 recession pushed small-cap valuations to record lows, which helped propel the unprecedented outperformance for small-caps compared to large-caps in the second half of the 1970s, as valuations reverted to more normal levels.
While very low valuations contributed to their outperformance, we also believe that the niche nature of many small-cap businesses allowed them to better navigate the scourge of inflation relative to larger businesses. For smaller companies with a disruptive technology, success tends to be driven more by market share gains or new market creation than by incremental growth of existing customers. Disruptive companies tend to be less dependent on GDP growth and more dependent on specific product acceptance. Still, because small-cap growth stocks are higher risk and are expected to generate earnings years into the future, they often experience valuation compression in times of rising uncertainty, slowing economic growth, or rising interest rates. That is precisely what occurred in 2022, which is reflected in today’s prices. Will we see more? It’s possible, though valuations for our universe are already close to record lows of the past 20 years. We believe the opposite is more likely, and we anticipate that valuations will eventually mean-revert. Sometime in 2023 or early 2024, we expect that investors will begin discounting the end of the rising interest rate cycle and a return to economic growth, which is the ideal environment for our investment holdings.
Over and over and over again, we have found that the single best time to invest in our strategies has been the pivot point when investors first see the forthcoming end of a recession and return to growth. It tends to happen well before economic data actually shows a recession subsiding. In those periods, our stocks tend to experience both above-average earnings growth and a PE multiple expansion, which is a powerful combination. We obviously cannot predict the exact timing of such events, but we believe that today’s investment environment potentially sets the stage for small-cap returns well ahead of the broader market over the next five years.
VALUATION RECAP
As of March 31, 2023, the price/earnings (P/E) ratio was 15.0 times for the Global Opportunities Fund (versus 14.9 last quarter), 15.3 times for the Small-Cap Opportunities Fund (versus 13.0 last quarter), 13.2 times for the Micro-Cap Fund (versus 11.6 last quarter), 15.5 times for the International Opportunities Fund (versus 15.2 last quarter), 23.1 times for the China Opportunities Fund (versus 18.9 last quarter), and 19.1 times for the Emerging Markets Fund (versus 18.2 times last quarter). Each of these funds invests in companies with expected earnings growth rates that are higher than that of the broader market, and in companies expected to grow faster than current market expectations. As of March 31, 2023, the weighted-average market capitalization was $4.3 billion for the Global Opportunities Fund, $4.2 billion for the Small-Cap Opportunities Fund, $1.5 billion for the Micro-Cap Fund, $5.1 billion for the International Opportunities Fund, $3.7 billion for the Emerging Markets Fund, and $54.3 billion for the China Opportunities Fund.
Thank you for investing with us in The Oberweis Funds.
Sincerely,
James W. Oberweis, CFA
President & Portfolio Manager
For current performance information, please visit www.oberweisfunds.com.
Performance data shown represents past performance and is no guarantee of future results. Investment return and principal value will fluctuate, so that you may have gain or loss when shares are sold. Current performance may be higher or lower than quoted. Unusually high returns may not be sustainable. Visit us online at oberweisfunds.com for most recent month-end performance.
The Oberweis Funds invest in rapidly growing smaller and medium sized companies which may offer greater return potential. However, these investments often involve greater risks and volatility. Foreign investments involve greater risks than U.S investments, including political and economic risks and the risk of currency fluctuations. There is no guarantee that the funds can achieve their objectives. Holdings in the Funds are subject to change.
Before investing, consider the fund’s investment objectives, risks, charges, and expenses. To obtain a copy of the prospectus or summary prospectus containing this and other information please visit our website at oberweisfunds.com or call 800-323-6166. Read it carefully before investing. The Oberweis Funds are distributed by Oberweis Securities, Inc. Member: FINRA & SIPC.
1Institutional Class shares OBGIX, OMCIX, OBSIX and OCHIX performance information was calculated using the historical performance of Investor Class shares for periods prior to May 1, 2017.
2Life of Fund returns are from commencement of operations on 01/07/87 for the Global Opportunities Fund, 01/01/96 for the Micro-Cap Fund, 09/15/96 for the Small-Cap Opportunities Fund, 10/01/05 for the China Opportunities Fund, 02/01/07 for the International Opportunities Fund, 05/01/17 for the Institutional Share Classes, 05/01/18 for the Emerging Markets Fund Share Classes and 04/01/22 for the Focused International Growth Fund.
3December 31, 2022 data. Expense ratio is the total net annualized fund operating expense ratio. The expense ratio gross of expense offset arrangements and expense reimbursements was 1.52%, 1.28%, 1.53%, 1.27%, 1.45%, 1.20%, 2.05%, 1.80%, 1.87%, 2.90%, 2.65% and 1.97% for OBEGX, OBGIX, OBMCX, OMCIX, OBSOX, OBSIX, OBCHX, OCHIX, OBIOX, OBEMX, OIEMX and OFIGX respectively. Oberweis Asset Management, Inc. (OAM), the Fund’s investment advisor is contractually obligated through April 30, 2024 to reduce its management fees or reimburse OBEGX and OBMCX to the extent that total ordinary operating expenses, as defined, exceed in any one year the following amounts expressed as a percentage of each Fund’s average daily net assets: 1.8% of the first $50 million; plus 1.6% of average daily net assets in excess of $50 million and for OBGIX and OMCIX 1.55% of the first $50 million; plus 1.35% of average daily net assets in excess of $50 million. OAM is also contractually obligated through April 30, 2024 to reduce its management fees or reimburse OBSOX, OBCHX, OBIOX, OBEMX and OFIGX to the extent that total ordinary operating expenses exceed in any one year 1.25%, 2.24%, 1.60%,1.75% and 0.95% expressed as a percentage of each Fund’s average daily net assets, respectively, and for OBSIX, OCHIX and OIEMX 1.00%,1.99% and1.50% respectively.
The MSCI World ex-US Small Cap Growth Index (Net) is a free float-adjusted market capitalization weighted index that is designed to measure the equity market performance of small cap growth developed markets excluding the US, with minimum dividends reinvested net of withholding tax. The MSCI ACWI Small Cap Index (Net) is a free float-adjusted market capitalization weighted index that is designed to measure the equity market performance of small cap developed and emerging markets with dividends reinvested net of withholding tax. The MSCI Emerging Markets Small Cap Index is a free float-adjusted, market capitalization-weighted index that measures the performance of small-cap stocks in 24 emerging markets. The MSCI China Net Index is a free float-adjusted market capitalization-weighted Index of Chinese equities that include China-affiliated corporations and H shares listed on the Hong Kong Exchange, and B shares listed on the Shanghai and Shenzhen exchanges and P chips and foreign listings with minimum dividends reinvested net of withholding tax. The MSCI EAFE Index is an equity index that captures large and mid-cap representation across 21 developed markets countries around the world, excluding the U.S. and Canada. The index is comprehensive, covering approximately 85% of the free-float-adjusted market capitalization in each country.
The Russell 2000 Index measures the performance of approximately 2,000 companies with small-market capitalizations. The Russell 2000 Growth Index measures the performance of those Russell 2000 companies with higher price-to-book ratios and higher forecasted earnings growth rates. The Russell Microcap Growth Index measures the performance of those Russell Micro Cap companies with higher price-to-book ratios and higher forecasted growth values. The performance data includes reinvested dividends. The Russell Microcap Index is represented by the smallest 1,000 securities in the small cap Russell 2000 Index plus the next 1,000 securities. Each index is an unmanaged group of stocks, whose performance does not reflect the deduction of fees, expenses or taxes.
