Preston Athey stepped down as manager of the Small-Cap Value Fund on June 30, 2014, marking a milestone in a career of three and a half decades in the investment management industry. Mr. Athey began his career at T. Rowe Price as a technology analyst in 1978 and started managing portfolios for the firm in 1982. In 1991, he assumed responsibility for the Small-Cap Value Fund, which at the time had approximately $45 million in assets. Under Mr. Athey’s watch, the fund grew to $10.2 billion in assets (across all share classes) as of June 30, 2014. Mr. Athey also managed similar portfolios for institutional clients, which together accounted for another $3.5 billion in assets through the same period. After stepping down as portfolio manager, Mr. Athey has remained a steady presence at T. Rowe Price, where he advises others in the Investment Division and mentors junior colleagues. Mr. Athey recently offered some of the lessons he learned from his long career, as well as his perspective on how the challenges of small-cap investing have evolved.

Durable principles of investing in small-caps

• Diversification is important for all investors, but it is crucial when investing in small-caps. Unlike most large-cap firms, small-cap companies are often reliant on a narrow set of products and services. Many are also untested, being in the early stages of their corporate lifecycle. Both factors increase the chance that any given company might falter or go out of business. To manage risk, Mr. Athey took care to limit position sizes, generally to no more than 2.5% of the portfolio. He also made sure to invest across all segments of the market, typically holding between 275 and 325 stocks in the fund—well in excess of the 100 holdings included in the median fund in the Lipper small-cap value funds category (as of June 30, 2014).

• The smaller the company, the more important management is to its success. Given small-caps’ reliance on a narrow product range and the intense competitive pressures they often face, a company’s management needs to be especially adept at handling challenges. Mediocre management teams can lead to disaster when a company comes under stress, while excellent ones can navigate through tough times or redirect struggling firms into new markets. It is also important that management’s interests are aligned with shareholders, so it is often preferable if the company’s stock forms a large part of an executive’s net worth. Throughout his career, Mr. Athey made a point of getting to know management teams whenever possible, either by traveling to see them or by meeting them in T. Rowe Price’s Baltimore office.
• Small-cap investors should hold on to their winners for as long as possible. Mr. Athey credits this insight to the late Jack Laporte, his longtime colleague who managed the growth-oriented small-cap New Horizons Fund for many years. Mr. Athey held some of his most successful investments in the fund for many years—and occasionally decades—and sold them either when they moved well into the mid-cap range or when their results clearly deteriorated. Keeping turnover low also reduces capital gains taxes.

How small-cap value investing has evolved

• The amount of information available about small-cap companies has grown and become much easier to access. When Mr. Athey began his career, finding financial information on a company often meant going to a library and plowing through reference sources the size of phone books. Now, such information can be gleaned after a few keystrokes. Three decades ago, investors could find companies that were virtually unknown to other analysts—a rarity today.
• While the ubiquity of financial data has made it harder for investors to gain an edge, careful research can still pay dividends. Mr. Athey notes that there is still a role for shoe leather research—counting cars in employee parking lots to determine whether companies are adding or cutting capacity, for example, or sounding out workers and customers to gauge business conditions for a retailer. Evaluating the strength of company management in face-to-face meetings also provides information that is not available online.
• Investors can gain an advantage by controlling how they react to the flood of information. The greater accessibility and volume of data does not mean that investors have become more sophisticated in their interpretation. Mr. Athey observes that many professional investors are no better than the general public in being able to control their emotional responses to the markets. Information alone does not provide the ability to be aggressive when others are fearful and cautious when others are exuberant, a contrarian stance that was a key element of Mr. Athey’s strategy.
• Falling trading costs have intensified the temptation to act based on one’s emotions. The past few decades have seen compressions in both brokerage commissions and the bid-ask spread, which have lowered the trading cost on a block of several hundred shares from 5% to 6% to under 1%. While this has boosted returns for careful investors, it has tempted others to move too frequently into and out the market—all too often selling low and buying high.
• As the volume of financial information has grown, the universe of investable small-cap companies has shrunk. When the Wilshire 5000 Index was created a few years before Mr. Athey began his career, its name reflected the approximate number of publicly traded companies on the U.S. markets. While the Wilshire 5000 has often represented fewer than 5,000 companies, by September 30, 2014, the index included only 3,698 stocks, which is particularly low by historical standards. The decline in the number of companies has reflected an active merger and acquisition market, the increasing role of private equity, and a relatively modest volume of initial public offerings due to increasing regulations and costs associated with taking a company public.

The key qualities of a successful portfolio manager

• The best portfolio managers are effective managers of people and processes. In assembling a highly diversified portfolio on a stock-by-stock basis, Mr. Athey needed to draw on the insights of a large and varied group of industry analysts at T. Rowe Price. Whether sorting through advice on a biotech firm or a mining company, he found it essential to know the person behind each stock in the portfolio and what was driving his or her recommendation. Ensuring that analysts knew their input was valued was important in motivating them and eliciting their best investment ideas.
• Sales and client service are key elements of a successful career. Mr. Athey traveled extensively to meet with institutional clients, whether smaller family trusts or large annuity funds. For retail clients, he took care to write detailed and straightforward shareholder reports, which he and other T. Rowe Price fund managers consider a critical bridge to their shareholders. For example, he never shied away from warning shareholders when he thought small-cap value stocks were expensive relative to other equity asset classes. Mr. Athey notes that he has been lucky to work with a team of highly qualified portfolio specialists, who often answer questions for clients when he is unavailable.
• A manager must always keep his or her fiduciary responsibility in mind. Mr. Athey never forgot that he was entrusted with the savings of hundreds of thousands of individuals. Seeking investment opportunities for them in a careful and risk-conscious manner was always his greatest motivator to work hard. Thomas Rowe Price, Jr. once said, If you take care of your clients, your clients will take care of you. These words from the firm’s founder are deeply ingrained in its culture.

Ups and Downs on Wall Street Over the Career of Preston Athey

Mr. Athey admits to only two sleepless nights in his nearly four-decade career: the evening after the Dow lost nearly a quarter of its value in October 1987, and following an ill-advised decision to drink too much tea at an evening garden party. Those who are unable to put the workday behind them are probably unlikely to last long in the field, he notes.

While Mr. Athey’s career encompassed two of the most dramatic market swings in history, the performance of his fund and the small-cap value asset class often differed significantly from the most-publicized market benchmarks—an example of the benefit of remaining well diversified.

Annualized returns as of 9/30/14

Small-Cap Value Fund Russell 2000 Value Index S&P 500 Index

One-Year 2.83% 4.13% 19.73%

Five-Year 13.90% 13.02% 15.70%

10-Year 8.89% 7.25% 8.11%

Expense ratio as of 12/31/2013: 0.96%

Current performance may be higher or lower than the quoted past performance, which cannot guarantee future results. Share price, principal value, and return will vary, and you may have a gain or loss when you sell your shares. To obtain the most recent month-end performance, please call 1-800-225-5132 or go to troweprice.com .

The Small-Cap Value Fund charges a 1% redemption fee on shares held 90 days or less. The performance information shown does not reflect the deduction of the redemption fee; if it did, the performance would be lower. Average annual total return figures include changes in principle value, reinvested dividends, and capital gain distributions.

Cumulative Returns During Bull and Bear Markets Over Preston Athey’s areer