Review and Outlook

as of 06/30/22

While the second quarter of 2022 fortunately did not deliver the geopolitical shock value of the first quarter, the global equity retreat continued. In our view, the seminal event was a perceived transition in market character despite no material change in the Russia/Ukraine conflict and the associated risk of commodity supply disruptions. To us this suggests the likely passing of peak inflation panic. Should this prove to be the case, we would expect global growth equity relative performance also to have bottomed, with material headroom for recovery in the coming months.

International equities, defined as the MSCI ACWI ex-USA Index, notably outperformed the S&P 500 Index during the quarter, notwithstanding the fact that Europe is much more directly exposed to the fallout from Russia’s invasion of Ukraine. Within the international markets landscape, emerging market equities outperformed developed market peers primarily driven by solid gains in China. We are encouraged by China’s growing commitment toward policy easing and regulatory support and continue to perceive its COVID-related challenges as unlikely to impact longer-term corporate earnings power. In our view, the lack of evidence that China may directly support Russia’s campaign in Ukraine is also being viewed favorably by investors.

European equities remained under pressure owing to the acute energy crisis in the aftermath of Russia’s aggression, which threatens consumer spending and suggests the EU is perhaps most vulnerable to recession. While underperforming markedly during the period, growth equities began a recovery late in the quarter as investors increasingly rotated out of economically sensitive stocks, particularly energy and commodity producers, on looming fears of a global economic slowdown.

Longer-term, we believe international equities are poised for a sustained period of outperformance. After a 30-year period of globalization that led to subdued capital investment, the changing nature of U.S./China relations and Russia’s aggression necessitate a global capital investment cycle. Such a cycle has nearly always correlated with international outperformance as these economies and markets are more sensitive to the beneficiaries of such an environment. We believe commodity prices are likely to remain elevated for some time, which should incentivize investment in secure energy, commodity and agricultural supply and help fund de-globalization. We view this scenario as a transfer of wealth from global consumers and toward the owners of real assets and producers of industrial goods, which are more concentrated in international jurisdictions. We also remain encouraged by longer-term fundamental factors, including the passing of peak global dollar demand, which, coupled with an increase in the supply of U.S. treasuries/dollars, suggests a dollar bear market awaits, which has historically favored international assets. As always, we are confident we have invested in well-positioned and well-managed companies with substantial long-term investment return potential.

Top Contributors/Detractors to Performance

as of 06/30/22

Contributors

  • Argenx SE is a biotechnology company focused on autoimmune disorders. Shares increased with the strong launch of Vyvgart, a treatment for generalized myasthenia gravis, a chronic autoimmune disease that causes muscle weakness. Early sales tripled consensus expectations, and global approvals are coming in earlier than guided. Data from Vyvgart's trial to treat immune thrombocytopenia was positive as well. We expect the next two years to have many catalysts, and, assuming a well-received commercial launch, 2022 should be another year of solid performance.
  • Full Truck Alliance Co. Ltd. is the largest digital freight platform in the world. Shares of the China-based company rallied after a cybersecurity review greenlighted the use of its apps to add new user registrations. We remain investors. Digital platform penetration into China’s four trillion RMB full-truck-load market is still just in the single digits. We see major upside based on the expected roll-out of transaction commissions to truckers from the current 6% market penetration and less than 1% take rate, and we expect revenue to grow at 50% CAGR over the next five years.
  • Estun Automation Co., Ltd. is one of China’s largest domestic producers of industrial robots. Estun contributed to performance on market share gains and an increase in prices despite the overall slowdown in industrial activity. Estun is the most advanced robotics player in China, with the highest quality and price premium relative to domestic peers. We expect Estun to consolidate the domestic robot space and grow market share from the current 3.5% to 10% and lead import substitution of foreign brands. We also expect Estun to benefit from greater scale and vertical integration.

Detractors

  • AMG Advanced Metallurgical Group N.V. is a European specialty metals and minerals company. Shares fell due to a decline in commodity prices as well as investor concerns around a possible recession. We remain shareholders. Demand is being driven by environmental regulations to reduce hazardous waste. We also like AMG's growth opportunity in lithium, an essential metal used in electric vehicle batteries and energy storage. AMG is currently planning its own lithium hydroxide refining plant in Europe, which we think should lead to a better margin profile for this business.
  • EDreams ODIGEO SA is an online travel company focused primarily in Europe with plans to expand into the U.S. Investor concerns around a decline in travel demand due to slowing global growth pressured shares in the quarter. We remain shareholders. EDreams was able to expand its travel business through the pandemic due to its unique value-based subscription offering, which we expect will help the company continue to grow through a tougher economic climate as well.
  • Befesa S.A. is a leading environmental services provider. The company recycles hazardous steel dust and aluminum waste for a fee and recovers valuable by-products such as zinc. The shares declined after the pullback in zinc and aluminum prices. We remain shareholders. Befesa’s scale, technological advantage, and customer captivity help generate high returns on capital. It is pioneering steel dust recycling in the virtually untapped Chinese market. We expect stricter environmental policies in China to help sustain high-double-digit growth rates over the next decade.

Quarterly Attribution Analysis (Institutional Shares)

as of 06/30/22

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 06/30/22

Baron International Growth Fund (Institutional Shares) was down 16.18% in the second quarter, trailing the MSCI ACWI ex USA Index by 245 basis points due to stock selection and headwinds from style biases, notably overexposure to the poor performing Beta and Residual Volatility factors and underexposure to the strong performing Earnings Yield factor.

On a country level, adverse stock selection in developed markets accounted for all of the underperformance in the period, led by sharp declines in the U.K., Japan, Spain, Israel, Germany, Australia, and France. These negative impacts were somewhat offset by favorable stock selection in emerging markets coming from the Fund’s investments in Korea and Poland. The Fund’s cash position in a market downturn and unique exposure to strong performing Russian and Uruguayan equities also added value.

Aside from cash, investments in Information Technology (IT) and Health Care contributed the most to relative performance. Positive stock selection in IT came from Swiss solar modules supplier Meyer Burger Technology Ltd and Chinese enterprise management software provider Kingdee International Software Group Co. Ltd., while biotechnology/diagnostics holdings argenx SE and AstraZeneca PLC were responsible for most of the strength in the Health Care sector.

Investments in Communication Services, Consumer Discretionary, Energy, and Industrials along with lower exposure to the outperforming Consumer Staples sector detracted the most from relative results. Adverse stock selection in Communication Services accounted for roughly half of the underperformance as several of the Fund’s digitization holdings fell sharply in the period, led by Future plc, Z Holdings Corporation, Innovid Corp., S4 Capital plc, Taboola.com Ltd., Spotify Technology S.A., and Universal Music Group N.V. Weakness in Consumer Discretionary came from a handful of the Fund’s European holdings in the digitization (eDreams ODIGEO SA), luxury-related (Watches of Switzerland Group Limited and Mister Spex SE), and Brexit (B&M European Value Retail S.A. and J D Wetherspoon plc) themes as concerns about financial contagion and growth constraints from the Ukrainian war continued to weigh on the region. Performance in Energy and Industrials was hindered by sustainability/ESG holdings Waga Energy SA, Befesa S.A., Aker Carbon Capture AS, Epiroc AB, China Conch Environment Protection Holdings Limited, Ceres Power Holdings plc, and Techtronic Industries Co. Ltd., all of which were down 20% or more in the period. Japan staffing holdings SMS Co., Ltd. and Recruit Holdings Co., Ltd. also weighed on performance in the sector. SMS was a significant detractor as renewed COVID-19 outbreaks curtailed hiring activity and slowed revenue growth, while Recruit Holdings was hurt by concerns about a slowdown in demand for Human Resources technology.

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.