Review and Outlook

as of 03/31/24

Global equities posted strong returns in the first quarter of 2024, continuing the bull run that started in late October 2023. Even the renewed threat of "higher for longer" interest rates did not put a check on equity performance. Stock prices continued to climb despite market expectations for more modest interest rate cuts in 2024.U.S. economic data was mostly positive during the quarter. Strong growth in the U.S. labor supply, driven by increased participation and a surge in immigration, helped generate job gains without elevating inflation. The U.S. unemployment rate, although still low, ticked up slightly. Existing home sales jumped 9.5% in February 2024, the highest percentage increase in a year and above consensus expectations.

Most other developed economies showed economic strength as well. Europe’s economy was supported by natural gas prices that fell below levels prior to the Russian invasion of Ukraine, an increase in global manufacturing activity, and a recovery in bank lending. Similar to the Fed, the European Central Bank suggested it will likely start cutting rates in June, as core inflation in the region declined. Japan continued its emergence from its decades-long stagnation, both in terms of economic activity and corporate profits growth. The U.K. was an exception to this overall positive narrative, with inflation declining relatively more slowly than in other peer economies.

Performance within emerging markets diverged. While Latin America and India began the year on a robust note, China continued to struggle to regain its footing following its prolonged zero-COVID lockdown, which it suddenly abandoned in late 2022, well after the rest of the world was phasing out COVID prevention measures. Problems in the property industry persisted, and the consumer price index was in deflation.

Against this backdrop, Baron Global Advantage Fund appreciated. Information Technology (IT) and Financials holdings contributed. Consumer Discretionary, Health Care, and Industrials detracted. Positive performance within IT was led by NVIDIA Corporation and CrowdStrike Holdings, Inc., respectively, the top and second largest contributor in the quarter. Electronic payment processor Adyen N.V. led gains within Financials. Declines within Consumer Discretionary were led by Tesla, Inc. and Rivian Automotive, Inc., the second and third largest detractors, respectively. Weakness within Health Care was driven by hybrid software/biotechnology company Schrodinger, Inc. Industrials lost ground due to a share price decline in Fiverr International Ltd., an online marketplace for freelance services.

We are optimistic about the long-term prospects of the companies in which we are invested and continue to search for new ideas and investment opportunities while remaining patient and initiating a position only when we believe the target companies are trading at attractive prices relative to their intrinsic values.

Top Contributors/Detractors to Performance

as of 03/31/24

Contributors

  • NVIDIA Corporation sells semiconductors, systems, and software for accelerated computing, gaming, and generative AI (GenAI). NVIDIA's stock rose in the first quarter, driven by continued strong demand for its GPUs that stand at the epicenter of the GenAI revolution. NVIDIA closed 2023 with unprecedented revenue growth at massive scale, with a fourth-quarter revenue run rate just shy of $90 billion, growing over 3.5 times year-on-year with operating margins of 67%. In addition to GenAI-driven demand, NVIDIA is benefiting from the transition to accelerated computing. NVIDIA continues to improve the performance of its chips and systems while removing hurdles for adoption through software innovation, such as the recently announced NVIDIA Inference Microservices, which make it easier for companies to adopt GenAI at scale.
  • CrowdStrike Holdings, Inc. is a cloud-architected SaaS cybersecurity vendor offering endpoint security, threat intelligence, and cyberattack response services. Shares increased following one of the strongest quarterly performances in company history. With market share gains in EDR (end point detection and response) accelerating, emerging products (Cloud, Identity, and SIEM) scaling to about $850 million in annual recurring revenue (ARR), and new partnership channels like Dell and Pax8 already making meaningful contributions, the outlook suggests sustained revenue growth of 30% or more over the next two years. Fiscal year 2025 guidance looks conservative, as it projects 8% to 12% net new ARR growth, a modest increase from the 6% growth it reported in fiscal year 2024. This guidance would suggest net new contributions from emerging products would significantly decelerate, landing in the range of 30% to 35% (on a 25% larger base), or that core EDR contributions would contract by roughly 15%, which are unlikely scenarios, in our view. We retain conviction in CrowdStrike, which is emerging as the security platform to beat in terms of scale, profitability, and free cash flow conversion.
  • Codere Online Luxembourg, S.A. operates online gaming and sports betting assets in Latin America and Spain. Shares increased during the quarter as the company reported net gaming revenue and EBITDA growth that beat consensus estimates. After a period of investing heavily to build its brand and gain share in its growth markets (Latin America), the return to normalized marketing spend is helping boost profitability. This, in turn, should accelerate earnings growth and drive a re-rating in the stock, which currently trades at a discount relative to its global peers, in our view.

Detractors

  • Shares of IT services provider Endava plc fell after management cut guidance for the fiscal year ending June 30, 2024. Growth has slowed over the last year as business customers pulled back on discretionary IT spending due to macroeconomic uncertainty. Last fall, management was seeing early signs of a recovery, but new projects have been taking longer to materialize as customers delay spending decisions. Higher expenses due to increased staffing to meet anticipated demand weighed on margins as well. Management acknowledged that it misread the market and is taking steps to right-size the cost structure to improve margins. We remain invested because we expect these near-term headwinds to abate over time, leading to better growth as clients embrace digital transformation.
  • Tesla, Inc. designs, manufactures, and sells electric vehicles, related software and components, and solar and energy storage products. Shares fell as the core automotive segment remained under pressure due to a complex macroeconomic environment, factory shutdowns, growing competitive risks in China, and Tesla’s price reductions throughout 2023. During the first quarter of 2024, production was negatively impacted by Red Sea maritime supply chain interferences, sabotage at a Tesla factory power supply in Berlin, and the launch of the refreshed Model 3. We remain shareholders. Tesla has started delivery of its highly anticipated Cybertruck pickup, which features new technologies within the car and its manufacturing lines. Tesla also launched version 12 of its Full Self Driving product, which features material improvements and should enhance investor confidence in Tesla's unique software and hardware capabilities. Lastly, we expect energy storage sales to continue to grow over the coming years.
  • Shares of Rivian Automotive, Inc., a U.S.-based electric vehicle manufacturer, detracted from performance. Despite substantial improvements in production and delivery volumes in 2023 as well as improved unit economics, Rivian's business remains constrained by its limited scale, negative gross margins, and elevated cash outflows. Additionally, Rivian expects to temporarily shut down its production facilities for upgrades, impeding anticipated production growth in 2024. Compounding these challenges is the potential for demand constraints, which may not keep pace with production. Nevertheless, the recent unveiling of Rivian's mass-market products, the R2 and R3, garnered enthusiastic responses, evidenced by over 68,000 pre-orders within the first 20 hours post-launch. In a strategic move, management opted to produce the R2 in Rivian's existing facility, deferring the construction of a new factory. This decision should help reduce mid-term capital expenditure obligations while ensuring higher utilization of current facilities as the R2 ramps production in 2025.

Quarterly Attribution Analysis (Institutional Shares)

as of 03/31/24

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.

as of 03/31/24

Baron Global Advantage Fund (Institutional Shares) appreciated 3.59% in the first quarter, trailing the MSCI ACWI Index by 461 basis points due to stock selection, active country exposures, and headwinds from style biases, notably overexposure to the weak performing Beta factor along with underexposure to the better performing Earnings Yield, Size, Book-to-Price, and Dividend Yield factors.

From a geographic perspective, disappointing stock selection in developed markets was responsible for about half of the underperformance in the period, as declines from Endava plc (U.K.), Shopify Inc. (Canada), and Fiverr International Ltd. (Israel) overshadowed strong performance in the U.S., Spain, and the Netherlands. Adding to this weakness was active exposure to Argentina, where shares of commerce and payments leader MercadoLibre, Inc. and digitally native technology services company Globant S.A. were down in the period. Finally, higher exposure to emerging market (EM) equities was a modest drag on performance as the group trailed their developed market counterparts for a second consecutive quarter due to ongoing weakness in China, where we continue to have no exposure. The Fund’s EM exposure is presently concentrated in India, Korea, Poland, and Brazil.

Looking at sectors, stock selection in Consumer Discretionary and Information Technology (IT) accounted for most of the underperformance in the period. Weakness in Consumer Discretionary was partly due to notable declines from electric vehicle manufacturers Rivian Automotive, Inc. and Tesla, Inc. Rivian's business remains constrained by its limited scale, negative gross margins, and elevated cash outflows. Moreover, Rivian is expected to shut down its production facility during the year for product and production upgrades, likely impeding production growth in 2024. Compounding these challenges is the potential for demand constraints, which may not keep pace with production growth. Tesla is confronting its own set of challenges as the core automotive segment remains under pressure due to a complex macroeconomic environment, factory shutdowns, growing competitive risks in China, and recent vehicle price reductions. We remain shareholders of both companies.

Additional headwinds to performance in Consumer Discretionary came from Latin American e-commerce marketplace MercadoLibre, Inc. and private Indian online education services company Think & Learn Private Limited. MercadoLibre’s shares fell after reporting below-consensus operating margins for the fourth quarter of 2023 due to the impact of seasonality, which the Street failed to properly account for. The margin miss was poorly received by the investors considering that MercadoLibre’s stock had nearly tripled since bottoming in June 2022. We continue to believe that MercadoLibre will be the dominant player in a growing Latin American e-commerce industry. The company’s bourgeoning fintech business also continues to scale profitably. Think & Learn was once again a drag on performance after being marked down for a fourth time. Weak performance was driven by a marked slowdown in business momentum as COVID-related tailwinds that benefited online/digital education have begun to dissipate. As India’s largest edtech player, the company has a significant opportunity to benefit from structural growth in online education services in the country.

Adverse stock selection in IT was driven by outsourced software development provider Endava plc and cloud data analytics platform Snowflake Inc., whose share prices corrected after performing exceptionally well in the latter half of 2023. Endava’s shares collapsed after management cut guidance for the fiscal year ending June 30, 2024. Growth has slowed over the last year as business customers pulled back on discretionary IT spending due to macroeconomic uncertainty. Last fall, management was seeing early signs of a recovery, but new projects have been taking longer to materialize as customers delay spending decisions. Endava increased staffing to meet anticipated demand, so higher expenses have weighed on margins. Management acknowledged that it misread the market and is taking steps to right-size the cost structure to improve margins. We remain invested because we expect these near-term headwinds to abate over time, leading to better growth as clients embrace digital transformation. Snowflake’s stock fell in response to an announced CEO transition and growth targets that fell short of Street expectations. Additionally, with generative AI capturing a larger portion of the public discourse, Snowflake’s position in the future data stack is being heavily scrutinized by investors. We believe the incoming CEO, Sridhar Ramaswamy, can help the business transition efficiently towards an AI-first world. Disappointing stock selection in IT was somewhat offset by higher exposure to strong performing semiconductor stocks via a sizeable position in NVIDIA Corporation.

Other areas of weakness were Industrials and Health Care, where freelance services marketplace Fiverr International Ltd. and drug discovery software platform Schrodinger, Inc. were the principal detractors. Fiverr’s stock fell after preliminary guidance for fiscal year 2024 missed Street expectations due to a depressed macroeconomic backdrop for SMBs and ongoing fears around generative AI. While there is near-term uncertainty, we retain long-term conviction and believe that management continues to execute well with strong underlying business fundamentals and ramping profitability. Schrodinger’s share performance was impacted by changes to revenue growth guidance for fiscal year 2024 that imply a slowing in contract revenue growth, a key pillar of the company’s business model. This combined with limited visibility into the clinical pipeline for both internal and external assets led to a lull in share performance after a strong 2023 when the company was a beneficiary of the AI trade. We do not think of Schrodinger's technology as an AI solution, but we do believe Schrodinger is a beneficiary of improving computational capabilities that support its free energy perturbation and molecular dynamics technology moats. Our long-term thesis has always relied on a belief that computer-enabled drug design will improve over time and that Schrodinger's success would be linked to these improvements. We maintain conviction in our position.

Somewhat offsetting the above was the Fund’s negligible exposure to the lagging Consumer Staples, Materials, Real Estate, and Utilities sectors, which together contributed 100-plus basis points of relative gains.

Investors should consider the investment objectives, risks, and charges and expenses of the investment carefully before investing. The prospectus and summary prospectuses contain this and other information about the Funds. You may obtain them from the Funds’ distributor, Baron Capital, Inc., by calling 1-800-99BARON or visiting www.BaronFunds.com. Please read them carefully before investing.

The performance data quoted represents past performance. Past performance is no guarantee of future results. The investment return and principal value of an investment will fluctuate; an investor's shares, when redeemed, may be worth more or less than their original cost. The Fund’s transfer agency expenses may be reduced by expense offsets from an unaffiliated transfer agent, without which performance would have been lower. Current performance may be lower or higher than the performance data quoted.

Risks:All investments are subject to risk and may lose value.

The discussion of market trends is not intended as advice to any person regarding the advisability of investing in any particular security. The views expressed on this page reflect those of the respective writer. Some of our comments are based on management expectations and are considered “forward-looking statements.” Actual future results, however, may prove to be different from our expectations. Our views are a reflection of our best judgment at the time and are subject to change at any time based on market and other conditions and Baron has no obligation to update them

Portfolio holdings are subject to change. Current and future portfolio holdings are subject to risk.

The index performance is not fund performance; one cannot invest directly into an index.