Baron Asset Fund: Latest Insights and Commentary

U.S. equities were broadly higher in the third quarter, building on gains from the prior quarter. The S&P 500 Index and NASDAQ Composite set new record highs, most recently on September 22, and the Dow Jones Industrial Average ended the quarter at an all-time high. Small caps led the market recovery, with the Russell 2000 Index finally surpassing its previous record high achieved almost four years ago on November 8, 2021. Market volatility remained muted during the quarter as the CBOE Volatility Index (VIX) continued to trade in the mid-teens, well below its long-term average of around 20. 

The preeminent driver of market strength was the increased likelihood of Federal Reserve (Fed) rate cuts, prompted by signs of weakness in the labor market and the subsequent emergence of more dovish Fed commentary. Rate cut expectations rose in early August following a much weaker-than-expected July nonfarm payrolls report and significant downward revisions to prior numbers. Dovish Fedspeak intensified as the month wore on, with Chair Powell hinting a possible interest rate cut while delivering remarks at the Fed’s annual Jackson Hole conference. Similarly, Governor Waller continued to advocate for cuts while speaking at the Economic Club of Miami. The Fed eventually resumed its rate-cutting cycle at the September meeting, lowering its policy rate by 25 basis points to a range of 4% to 4.25%, after being on hold since its previous cut last December. Robust corporate earnings, narrowing trade uncertainties, a resilient consumer, increased M&A and IPO activity, and sustained AI optimism also contributed to market gains during the quarter. 

The Magnificent Seven complex dominated market returns for a second consecutive quarter, accounting for nearly two-thirds of the S&P 500 Index’s third-quarter gains. The group appreciated 15.5% in the period, outperforming all other securities in the Index, which were up 4.6%, by a double-digit margin. Tesla (+40.0%), Alphabet (+38.1%), Apple (+24.2%), and NVIDIA (+18.1%) posted the largest gains. Meta and Amazon were essentially flat in the period, trailing the broader Index. 

Most sectors closed higher in the period, with Information Technology, Communication Services, and Consumer Discretionary being the only sectors to outperform the broader market thanks to the heavy influence of the Magnificent Seven. Consumer Staples was the only sector to decline in the period, driven by broad-based weakness across a range of sub-industries, including distillers & vintners, personal care products, food retail, tobacco, and household products. Other laggards were Real Estate, Financials, Health Care, Industrials, Energy, and Materials. From a style perspective, small caps outperformed in the third quarter, rising more than 12% and narrowing the gap with mid- and large-cap stocks this year. Performance was mixed between growth and value, with growth stocks dominating in July, losing out to value in August, and rebounding in September. Despite recent volatility, growth generally remains ahead of value year to date, with the largest differential in the mid- and large-cap segments thanks to the heavy influence of Palantir and the broader Magnificent Seven. 

Beyond the U.S., emerging market (EM) equities meaningfully outperformed in September to finish ahead of their developed market counterparts for the quarter. The rally in Chinese equities was largely responsible for EM outperformance, with gains being driven by investor optimism about AI innovation, which bolstered Chinese technology and internet companies. Targeted government initiatives, easing trade tensions with the U.S., and significant domestic capital inflows also contributed to strength in China. Taiwanese and Korean equities also performed well in the period, overshadowing weakness in India, where equity markets were pressured by underwhelming corporate earnings and concerns about recently enacted U.S. tariffs. Foreign investor flows in Indian markets turned negative in the third quarter after being meaningfully positive in May and June. Performance in developed markets was held back by weakness in continental Europe (Denmark, Germany, Norway, Switzerland, France, and Sweden). European equities were hurt by weak corporate earnings, Trump tariff headwinds, and political instability, particularly in France, where the country’s prime minister resigned after losing a crushing confidence vote in parliament.

CONTRIBUTORS

• Veterinary diagnostics leader IDEXX Laboratories, Inc. contributed to performance after reporting better-than-expected financial results. Foot traffic to veterinary clinics in the U.S. remains under pressure, which has continued to hamper aggregate revenue growth. Even so, IDEXX’s excellent execution has enabled the company to maintain strong performance. We believe IDEXX’s competitive trends are outstanding, and we expect new proprietary innovations and field sales force expansion to be meaningful contributors to growth this year. We see increasing evidence that long-term secular trends around pet ownership and pet care spending have structurally accelerated, which should support IDEXX’s long-term growth rate.
• Amphenol Corporation, a leading global supplier of advanced interconnect systems for data centers, contributed to performance during the quarter. The stock rallied as expectations for data center capital spending continued to rise with the accelerating adoption of AI. In addition, Amphenol announced its largest-ever acquisition—CommScope’s Connectivity and Cable Solutions business for $10.5 billion—which was well received by investors. Amphenol has demonstrated consistent shareholder value creation through prudent capital deployment and disciplined acquisitions. We remain shareholders given the company’s durable competitive advantages and proven track record of both organic and inorganic growth.
• Space Exploration Technologies Corp. (SpaceX) is a high-profile private company founded by Elon Musk. The company’s primary focus is on developing and launching advanced rockets, satellites, and spacecrafts, with the ambitious long-term goal of making life multi-planetary. SpaceX is generating significant value with the rapid expansion of its Starlink broadband service. The company is successfully deploying a vast constellation of Starlink satellites in Earth's orbit, reporting substantial growth in active users, and regularly deploying new and more efficient hardware technology. Furthermore, SpaceX has established itself as a leading launch provider by offering highly reliable and cost-effective launches, leveraging the company's reusable launch technology. SpaceX capabilities extend to strategic services such as human spaceflight missions. Moreover, SpaceX is making tremendous progress on its newest rocket, Starship, which is the largest, most powerful rocket ever flown. This next-generation vehicle represents a significant leap forward in reusability and space exploration capabilities. We value SpaceX using prices of recent stock transactions.

DETRACTORS

• Gartner, Inc., a provider of syndicated research, detracted from performance following disappointing quarterly earnings. Contract value growth, a leading indicator of future revenue, decelerated by approximately 2%. We attribute most of the slowdown to ongoing cost cutting in the U.S. public sector, which represents about 5% of revenue, as well as more challenging business conditions in industries dependent on public-sector funding. In addition, companies with meaningful exposure to tariffs appear to be reducing costs, resulting in longer sales cycles and slightly higher client attrition. While the market expressed concern about the impact of AI on Gartner’s insights business, we see no evidence that this is negatively impacting its value proposition. The company continues to benefit from a vast and expanding set of proprietary data generated through hundreds of thousands of interactions with buyers, sellers, and technology consumers. Gartner bought back approximately $800 million worth of stock in July and August and authorized an additional $1 billion in September, and we expect the company to continue repurchasing shares aggressively to capitalize on the discounted valuation.
• StubHub Holdings, Inc., the leading marketplace for the resale of live event tickets, detracted from performance following its September IPO. The company has been investing heavily to expand market share and develop capabilities to sell tickets directly on behalf of sports teams. Near-term results were also affected by challenging annual revenue comparisons after the outsized success of Taylor Swift tour ticket sales last year. Despite these temporary headwinds, we remain optimistic that StubHub’s growth and profitability will accelerate meaningfully.
• Verisk Analytics, Inc. is a leading data and analytics vendor. The stock detracted from performance due to management’s conservative outlook for the second half of 2025, the announced $2.35 billion acquisition of AccuLynx, which is expected to be modestly dilutive to earnings in the first year, concerns about a slowing property and casualty insurance pricing backdrop, and broader industry-wide AI uncertainty. Nonetheless, Verisk reported strong quarterly earnings and CEO Lee Shavel sounded upbeat on the company's growth potential moving forward. We maintain conviction in the competitive positioning, long-term growth, margin expansion, and capital deployment prospects for the business.

When reviewing performance attribution on our portfolio, please be aware that we construct the portfolio from the bottom up, one stock at a time. Each stock is included in the portfolio if it meets our rigorous investment criteria. To help manage risk, we are aware of our sector and security weights, but we do not include a holding to achieve a target sector allocation or to approximate an index. Our exposure to any given sector is purely a result of our stock selection process.

Baron Asset Fund (the Fund) underperformed for a second consecutive quarter as U.S. equities continued to rally from lows reached on April 8. The Fund declined 4.23% (Institutional Shares) in the third quarter, trailing the Russell Midcap Growth Index’s (the Index) gain of 2.78% by 701 basis points. Like the prior quarter, the shortfall was mostly style-related, with the Fund’s underexposure to Momentum, Beta, and Residual Volatility proving especially costly, as stocks with elevated exposure to these factors continued to lead the market higher in the period. The Fund’s overexposure to Earnings Quality also hampered performance given the ongoing rally in lower quality stocks during the quarter. The Earnings Quality factor suffered its worst three-month performance on record during the quarter, exemplifying how challenging the market environment was given the Fund’s higher quality profile. Disappointing performance from long-time holding Gartner, Inc. and recent IPO StubHub Holdings, Inc. accounted for the remaining underperformance in the period.

From a sector perspective, stock selection in Information Technology and Communication Services was responsible for about three-quarters of the underperformance in the period, with much of the weakness attributable to sharp declines from syndicated research provider Gartner and global ticket marketplace StubHub. Gartner was the top detractor after reporting disappointing quarterly earnings. Contract value growth, a leading indicator of future revenue, decelerated by approximately 2%. We attribute most of the slowdown to ongoing cost cutting in the U.S. public sector, which represents about 5% of revenue, as well as more challenging business conditions in industries dependent on public-sector funding. In addition, companies with meaningful exposure to tariffs appear to be reducing costs, resulting in longer sales cycles and slightly higher client attrition. While the market expressed concern about the impact of AI on Gartner’s insights business, we see no evidence that this is negatively impacting its value proposition. The company continues to benefit from a vast and expanding set of proprietary data generated through hundreds of thousands of interactions with buyers, sellers, and technology consumers. Gartner bought back approximately $800 million worth of stock in July and August and authorized an additional $1 billion in September, and we expect the company to continue repurchasing shares aggressively to capitalize on the discounted valuation.

StubHub detracted from performance following its September IPO. The company has been investing heavily to gain market share and develop capabilities to sell tickets directly on behalf of sports teams. Near-term results were also affected by challenging annual revenue comparisons after the outsized success of Taylor Swift tour ticket sales last year. Despite these temporary headwinds, we remain optimistic that StubHub’s growth and profitability will accelerate meaningfully.

Poor stock selection in Consumer Discretionary, Financials, and Industrials also hampered relative results. Weakness in Consumer Discretionary was broad based, led by double-digit declines from lodging franchisor Choice Hotels International, Inc. and premium footwear and apparel brand On Holding AG. Choice shares fell during the quarter amid investor concerns over continued revenue per available room (RevPAR) weakness at the company’s lower-end economy and midscale brands. While the slowdown in RevPAR is disappointing and bears monitoring, Choice continues to grow its more revenue-intensive units at a strong pace, helping offset the softness. The company is also increasing royalty rates, particularly across its Radisson brands, further supporting revenue and margin expansion. Choice generates strong cash flow and maintains a solid balance sheet, providing flexibility to pursue acquisitions, reinvest in the business, and repurchase shares. We believe the stock’s valuation continues to reflect a significant discount to intrinsic value, and management’s disciplined capital allocation and commitment to returning capital to shareholders position the company for upside as growth reaccelerates following the recent economic slowdown.

On’s stock price was pressured by macroeconomic uncertainty and concerns about rising competition in the global sportswear industry. Despite these headwinds, the company delivered strong quarterly results, with revenue up 38% and broad-based growth across regions and categories. Management also raised its revenue and profitability expectations for the year. We maintain conviction in On’s ability to gain market share in the attractive global sportswear segment through its premium brand positioning and innovative product offerings, and we believe shares remain undervalued at current levels.

Performance in Financials was hindered by financial data businesses FactSet Research Systems Inc. and Morningstar, Inc., whose share prices were hurt by a combination of industry-wide AI concerns, cautious commentary from several financial data and software peers, and factor rotation as investors shifted from high-quality, defensive names to higher-growth stocks. We remain investors in these high-quality businesses.

Data and analytics vendor Verisk Analytics, Inc. was mostly responsible for the relative shortfall in Industrials after the company’s stock declined 19.1% in the period. Verisk detracted from performance due to management’s conservative outlook for the second half of 2025, the announced $2.35 billion acquisition of AccuLynx, which is expected to be modestly dilutive to earnings in the first year, concerns about a slowing property and casualty insurance pricing backdrop, and broader industry-wide AI uncertainty. Nonetheless, Verisk reported strong quarterly earnings and CEO Lee Shavel sounded upbeat on the company's growth potential moving forward. We maintain conviction in the competitive positioning, long-term growth, margin expansion, and capital deployment prospects for the business.

Somewhat offsetting the above was solid stock selection in Health Care along with higher exposure to Real Estate, which was the second best performing sector in the Index. Solid stock selection in Health Care was driven by strong performance from veterinary diagnostics leader IDEXX Laboratories, Inc., whose share price was lifted by better-than-expected financial results. Foot traffic to veterinary clinics in the U.S. remains under pressure, which has continued to hamper aggregate revenue growth. Even so, IDEXX’s excellent execution has enabled the company to maintain strong performance. We believe IDEXX’s competitive trends are outstanding, and we expect new proprietary innovations and field sales force expansion to be meaningful contributors to growth this year. We see increasing evidence that long-term secular trends around pet ownership and pet care spending have structurally accelerated, which should support IDEXX’s long-term growth rate.