Manager Commentary-Archive-Deleted

Manager Commentary, 2nd Quarter 2010

Q: What did you learn from the recent rebalance ofthe Russell Indexes?

A: According to our analysis of the Russell rebalance, the number of investable stocks has declined by 40% since 1999. Each year at the end of June, The Frank Russell Company rebalances its indexes to account for changes in market size. In 1999 there were nearly 6000 domestic companies listed on the major U.S. stock exchanges. At the time of the Russell rebalance in late June, the number of domestic companies listed on the major stock exchanges was 3633. The reasons for the decline in the number of publicly traded companies include bankruptcies, acquisitions, companies going private, and the decline in the number of IPO’s. We feel that the significance of this development can be understood as a simple study of Economics: a shrinking supply of companies to invest in could have a strong impact on rising stock prices in the future.

Q: Where have you found opportunity as a result of Russell rebalance?

A: We increased our position in two stocks that wereremoved from the Russell Indexes as a result of the rebalance, PC Mall (MALL) and NovaMed (NOVA). In each instance, we felt that institutional selling due to the rebalance caused the stock price to fall to a level that was well-below our valuation of the business.

PC Mall is a distributor of electronic components. One of the company’s larger clients is Apple, Inc. – Apple products such as the iPod and iPhone are distributed through PC Mall’s pipeline. Following the Russell rebalance, PC Mall had a market capitalization of $40 million, a level nearly half of its tangible book value of $70 million. The company, which trades at approximately $3.50, earns $1.1 billion in revenue and has a current P/E ratio of less than 6. We believe that future earnings power translates to a P/E ratio of below 3, which to our minds represents opportunity for significant upside on a long term basis.

Performance as of 6/30/10*

NovaMed owns and manages offices for surgeons and other health care providers, an attractive option for doctors who prefer to focus on medicine as opposed to business. Similar to PC Mall, Nova Med’s share price declined following the Russell rebalance to a level that we believe is out of touch with fundamentals. Nova Med trades at approximately $8.00 which corresponds to a market capitalization of $60 million. The company earns $160 million in revenue but, more significantly, generates an enormous amount of cash flow. The company generates $45 million annually in cash, which makes today’s price equivalent to less than 2 times cash flow and is reason for us to believe that the investment has significant upside.

Q: Second Quarter Attribution Analysis – What Happened?

A: Although the quarter was a down period for our Funds,  our attribution analysis shows that stock selection added the largest positive impact in both Funds.

The Emerging Opportunities Fund attribution analysis  shows that stock selection impact was driven by several stocks that increased dramatically based on positive news events. One example was Hauppauge (HAUP), a stock that rose more than three-fold over several days after management announced the release of a new application (app) for the Apple iPod. We felt the stock price appreciated to a level that was unsustainable and as a result, we sold our entire position from The Fund. Over the period, HAUP contributed 1.00% to the Fund’s overall performance.  Among portfolio detractors, no single investment reduced the Fund’s overall performance by more than 0.40%. We believe this is a testament to the Fund’s efforts to reduce stock specific risk by maintaining broad diversification. The Fund holds 100-150 names and initial positions are generally limited to 0.5%-1.5% of the portfolio.  The MicroCap Opportunities Fund attribution analysis  shows that the stock selection impact was a result of returns related to four companies that were bought-out of the portfolio during the second quarter, each of which was acquired at a nearly 100% premium. Over the period, these investments added more than 2.0% to the Fund’s overall performance. We believe that the environment remains favorable for acquisition activity in the microcap universe, due to number of larger companies searching for a better use of their cash considering the record-low yield it is earning today.

Acquisition Activity, January 1 – June 30, 2010*

*To view the full Commentary, including referenced tables, charts and or graphics, please download the PDF.

The information provided herein represents the opinion of Perritt Capital Management and is not intended to be a  forecast of future events, a guarantee of future results, nor investment advice. The fund’s investment objectives, risks, charges and expenses must be considered carefully before investing. The statutory  and summary prospectuses contain this and other important information about the investment company, and may be obtained by calling 1-800-331-8936 or by visiting www.perrittmutualfunds.com. Read carefully before investing. As of 6/30/13, The Perritt MicroCap Opportunities Fund and Perritt Ultra MicroCap Fund held a 1.46%/1.34% position in ADUS and no position in VRTS. Fund holdings and sector allocations are subject to change and are not recommendations to buy or sell any security. Current and future portfolio holdings are subject to risk.

The Russell 2000 Index consists of the smallest 2,000 companies in a group of 3,000 U.S. companies in the Russell 3000 Index, as ranked by market capitalization. The Russell Microcap index is a capitalization weighted index of 2,000 small cap and micro cap stocks that captures the smallest 1,000 companies in the Russell 2000, plus 1,000 smaller U.S.-based listed stocks. The S&P 500 Index is designed to be a leading indicator of U.S. equities and is meant to reflect the risk/return characteristics of the large cap universe. It is not possible to invest directly in an index. R-Squared is a statistical measure that represents the percentage of a fund’s or security’s movements that are explained by movements in a benchmark index. Correlation is a statistical measure of how two securities move in relation to each other.

Mutual fund investing involves risk. Principal loss is possible. The Funds invest in smaller companies, which involve additional risks such as limited liquidity and greater volatility than larger companies. The Funds invest in micro cap companies which tend to perform poorly during times of economic stress. The Ultra MicroCap may invest in early stage companies which tend to be more volatile and somewhat more speculative than investments  in more established companies.

The Perritt Funds are distributed by Quasar Distributors, LLC

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