Small Cap Fund

(As of 9/30/19) — The U.S. stock market continued to advance in the 3rd quarter, as expectations for accommodative monetary policy appeared to outweigh concerns of slowing economic growth. The S&P 500 Index returned 1.70% in the period, bringing the year-to-date return to 20.55% through quarter-end. Weak economic data led the Federal Reserve to cut interest rates twice in the quarter, driving rates lower and bond prices higher. U.S. markets outperformed international markets on the strength of the U.S. dollar.

The Russell 3000 Index gained 1.16% in the quarter. Value narrowly outperformed growth, with the Russell 3000 Value Index up 1.23% and the Russell 3000 Growth Index advancing 1.10%. Large caps generally outperformed small caps in the quarter. The Russell 1000 Index returned 1.42%, the Russell Midcap Index returned 0.48%, and the Russell 2000 Index posted a loss of 2.40%. Defensive sectors led the way in the period, with Utilities up 9.34%, Real Estate up 7.69%, and Consumer Staples up 6.12%. Energy was the worst performing sector with a total return of -6.61%. Health Care was also weak, returning -2.25% on increasing political concerns.

(As of 9/30/19) — The Buffalo Small Cap Fund declined by 3.79% during the quarter, a result that outperformed the Morningstar U.S. Small Cap Growth Index, which declined 4.45%. Stock selection in Financials and Industrials were key drivers of outperformance relative to the Index. These strong sources of return were offset, in part, by poor stock selection in Consumer Staples and a portfolio overweight position in Health Care.

TOP CONTRIBUTORS

CyrusOne was the Fund’s top contributor, with the stock increasing 37% during the period. The company is a leading data center operator and has generated strong and consistent operating performance in a favorable demand environment. The stock spiked during the quarter on reports it could be a buyout target at a high premium relative to its then-current share price.

MasTec was another strong contributor to results as the company’s stock increased by 26% for the quarter. Mastec continues to post solid results in its pipeline construction division. Its telecom division, which installs fiber for telecom and cable companies, looks to accelerate growth in 2020 in anticipation of 5G wireless networks that require additional fiber for small cell sites. Furthermore, its power generation and electric transmission businesses seem poised for improved results in coming years, setting up the company for stronger growth than many other players in the engineering and construction space.

Palomar was also among the top contributors in the quarter, increasing 64%. The company is a property and casualty insurer, which completed an initial public offering in April 2019. It has produced solid results with best-in-class underwriting margins, strong premium growth, and improved investment income, and we are optimistic about its long-term growth prospects.

TOP DETRACTORS

CareDx was the worst-performing position during in the quarter. The company is a player in diagnostic solutions for organ transplant patients, and its AlloSure product is a leader in transplant centers with strong growth prospects. The stock has been weak due to investor fears over the potential threat from a competing product.

(As of 9/30/19) — Looking forward into the 4th quarter of 2019 and beyond, we remain cautiously optimistic about the long-term outlook for small cap stocks but believe they could be poised for continued volatility. Factors we believe will drive this volatility include the ongoing unresolved trade dispute with China. While there is no obvious end in sight for the trade war, we believe President Trump has a strong incentive to reach an agreement in order to prevent a sinking of the U.S. economy and a decline in the stock market going into the 2020 election year. We continue to see mixed signals about the health of the U.S. economy as the job market has remained relatively strong, but some data has pointed to slowing economic growth. The Federal Reserve cut rates twice in the 3rd quarter, but the timing and direction of more easing is unclear. We expect political concerns to drive market volatility as the Democrat-led House of Representatives explores an impeachment process against President Trump. While small cap names have lagged large cap names year-to-date (the Morningstar U.S. Large Growth Index has advanced nearly 21% year to date versus the Morningstar U.S. Small Growth Index advance of 17%), we believe small cap valuations remain favorable compared to large cap, which could lead to outperformance for small caps in coming quarters, if these valuations converge.

Within this context, we have been managing the Fund actively, seeking to deploy capital into investments we believe have the most favorable risk/reward trade-offs. The portfolio finished the quarter with 73 investment positions (excluding cash), down from 77 at the beginning of the period. We continue to identify investment opportunities in small companies with strong secular growth opportunities with the potential to benefit from long-term growth trends and trade at attractive valuations. As always, we appreciate your continued support and confidence in our investment capabilities over the long haul.