Baron Real Estate Income Fund: Latest Insights and Commentary

U.S. equity markets managed gains in a period of heightened volatility, with the CBOE Volatility Index (VIX) briefly spiking above 50 for the first time in over five years before settling back below its long-term average of 20 by quarter end as tariff policy uncertainty and war in the Middle East failed to unnerve investors. Risk-off sentiment early in the quarter centered around President Trump’s “Liberation Day” tariff announcement, which Wall Street strategists viewed as more severe than expected and likely to slow economic growth, boost inflation, and increase the odds of a recession this year. On April 2, President Trump unveiled an unprecedented global tariff regime, placing a 10% baseline tax on imports from all countries, a 34% tariff on Chinese goods, a 25% tariff on all car imports, and a 20% tariff on EU goods. In retaliation, China imposed 34% tariffs on U.S. goods and the EU announced its own countermeasures. The S&P 500 Index fell more than 12% over the next four days, nearly entering bear market territory from its all-time high on February 19, 2025 (down almost 19%). Other prominent benchmarks, such as the NASDAQ Composite Index and Russell 2000 Index, officially entered a bear market in early April, declining more than 20% from their respective all-time highs reached late last year.

After bottoming on April 8, U.S. equities rebounded due to positive trade developments. On April 9, Trump announced a 90-day pause on most reciprocal tariffs to allow for negotiations. China was the only country excluded from the pause, with Trump instead raising tariffs on China to 145%, prompting Chinese officials to increase tariffs on U.S. goods to 125%. However, U.S. and Chinese officials eventually agreed to a de-escalation of tariffs on May 12, alleviating investor concerns and contributing to additional market gains. Other market catalysts were resilient corporate earnings amid tariff-driven pressures, dovish Federal Reserve commentary following muted May inflation, AI tailwinds from NVIDIA’s strong earnings results and Middle East deals, improving consumer sentiment, and a recent ramp in M&A and IPO activity. The sudden Israel-Iran war and subsequent involvement of the U.S. via the bombing of various Iranian nuclear sites threatened to upend market momentum, but a fragile ceasefire was quickly brokered, and the market resumed its advance to close the quarter at a record high.

The Magnificent Seven complex resumed its leadership role during the quarter, accounting for nearly 60% of the S&P 500 Index’s gains. The group appreciated more than 20% in the period, outpacing the Index, which was up 10.9%. NVIDIA (+45.8%), Microsoft (+32.7%), Meta (+28.2%), and Tesla (+22.6%) posted the largest gains. Apple (-7.5%) was the only member of the group to decline and trail the broader Index.

Sector performance mirrored the influence of the Magnificent Seven, as Information Technology, Communication Services, and Consumer Discretionary were among the top performing sectors. Industrials was the only other sector to outperform the Index, helped by strong gains from aerospace & defense companies. Health Care experienced a severe reversal of fortunes during the quarter, as the sector’s 7.2% decline wiped out all year-to-date outperformance versus the broad market. After trailing the S&P 500 Index by more than 50% over the prior two calendar years, Health Care was tracking ahead of the Index this year, outperforming by 750-plus basis points through the end of April. But that all changed in May and June when the sector trailed the Index by approximately 15%. Health Care performance was hampered by multiple factors, including regulatory uncertainty, particularly around drug pricing and Medicare Advantage reimbursement rates, federal investigations involving sector heavyweight UnitedHealth, disruption at the FDA and cancellations/delays of NIH grants for academic research, concerns about tariffs on the pharmaceutical industry, and renewed investor interest in AI-driven technology companies. Energy was another notable laggard, pressured by the sharp decline in oil prices during the quarter.

From a style perspective, small caps failed to lead the way in the market recovery during the quarter, trailing mid- and large-cap stocks. Small caps remain in negative territory this year, down 1.8%, while larger-cap stocks are up about 6%, having recovered all losses from early in the year. Growth stocks outperformed for a third consecutive month to finish the quarter ahead of value by between 400 and 1,400 basis points. The largest differential was in mid and large cap, where sizeable weights in Palantir/AppLovin and Magnificent Seven factored heavily into the strong showing for these growth benchmarks. Growth is now outperforming in most size segments this year, representing a meaningful turnaround from the end of March when value was ahead by a wide margin across the board.

Beyond the U.S., developed and emerging market (EM) equities were up double digits for the quarter, benefiting from the significant allocation shift away from U.S. equities early in the period. Despite modest underperformance in June, developed Europe was a standout for the quarter, bolstered by sharp gains in the Netherlands, Spain, Ireland, Germany, Italy, Finland, and Sweden. Securities in Israel, Hong Kong, Australia, and Canada also contributed to strength in developed markets. EM equities were lifted from semiconductor-related strength in Taiwan and Korea (SK hynix). Solid gains in Mexico and Brazil also contributed to EM outperformance, as investors were relieved about the relatively less punitive tariff approach announced by the U.S. administration. 

CONTRIBUTORS

• Brookfield Corporation is a global investor in real estate, infrastructure, renewable power, private equity, and credit, with $1 trillion in assets under management. Shares contributed to performance on strong capital deployment, fundraising momentum, and improving values of real estate investments held on its balance sheet. We continue to own the company given its strong asset management platform, which offers high earnings visibility, along with its global capital deployment capabilities.
• SmartStop Self Storage REIT, Inc. is REIT that owns and operates self-storage facilities across the U.S. and Canada. The company completed its IPO in April and, later that month, reported its first post-IPO quarterly results. Shares rose following stronger-than-expected organic growth and active acquisition activity. These results helped drive a re-rating in the stock, with valuation multiples moving closer to those of publicly traded peers. We believe SmartStop is well positioned for continued growth given its scalable platform, disciplined acquisition strategy, and favorable long-term demand trends in the self-storage industry.
• Wynn Resorts, Limited is a global luxury resort operator with properties in Las Vegas and Macau and a new integrated resort under development in the UAE. Shares rose during the quarter due to an in-line outlook for Las Vegas, accelerating growth in Macau, and continued progress on the UAE project. Early in the quarter, the stock came under pressure due to concerns about tariffs and a potential trade war with China, as well as fears of a consumer slowdown and political risk weighing on Macau valuations. However, Macau trends improved meaningfully, with gross gaming revenue up double digits year over year through May, compared to low single-digit growth earlier in the year. In Las Vegas, management highlighted stable demand from VIP customers, ongoing investment in food and beverage, and strong group bookings extending through 2026. We remain constructive on Wynn’s long-term prospects, given its differentiated positioning in Las Vegas and the earnings potential of the new UAE development.

DETRACTORS

• Independence Realty Trust, Inc. (IRT) owns 33,000 apartment units that cater to a more affordable income demographic. Shares declined during the quarter due to broader economic concerns, including the potential impact of tariff policies on lower-income consumers, softer-than-expected pricing power on new leases, and mixed investor reception of select strategic acquisitions. We retain conviction in IRT due to its superior management team, high-quality portfolio in select markets, and demonstrated ability to drive outsized earnings growth through its value-add program.
• Prologis, Inc. is the largest owner and operator of industrial warehouse real estate in the world. Shares declined during the quarter due to a slowdown in leasing demand, driven by heightened uncertainty around global tariffs and trade policies. We see this as a temporary headwind, with pent-up demand likely to be released once macroeconomic pressures ease. We believe Prologis’ multi-year growth outlook remains compelling given its scale, strategic locations, and best-in-class operations. We also view the current valuation as attractive.
• Weyerhaeuser Company is a timber REIT and one of the world’s largest owners of timberlands. It is also a leading manufacturer of wood products such as lumber, plywood, and other building materials. Shares of Weyerhaeuser were pressured during the quarter due to a softer-than-expected spring housing market, which weighed on lumber and other wood product prices. The majority of the company's products are used in new residential construction or repair and remodel activity, so weak seasonal demand negatively impacted results. While we continue to believe the long-term outlook for the housing market remains favorable, we exited our position in Weyerhaeuser and reallocated capital to other opportunities. We plan to continue monitoring the company and may revisit the position in the future.