Review and Outlook

as of 12/31/23

U.S. equities rose sharply in November and December, pushing the broad market indexes into double digits for the quarter and reversing the losses suffered over the preceding three months. Moderating inflation coupled with a softening labor market and a perceived peak in the cycle of interest rate hikes were the main drivers of the broad-based rally. The S&P 500 Index was up more than 26% for the year, closing at a new all-time high, while the NASDAQ Composite Index appreciated nearly 45%. Most of the gains in the broad market indexes came from the so-called Magnificent Seven, which together were up 76% for the year, driven, in part, by excitement surrounding their ability to gain from widespread adoption of artificial intelligence.

Baron Opportunity Fund increased in the quarter. Information Technology (IT), Consumer Discretionary, and Communication Services investments contributed the most. Health Care holdings detracted. IT had a very strong quarter, with all 21 of the portfolio's IT investments advancing. Sector gains were led by top contributor Microsoft Corporation and third largest contributor NVIDIA Corporation. Second largest contributor Amazon.com, Inc. drove appreciation within Consumer Discretionary. Gains within Communication Services were led by Meta Platforms, Inc. Shares of the owner of Facebook and Instagram rose on healthy topline growth and consensus-beating guidance, aided by a broader technology rally. Top detractor argenx SE and third largest detractor Illumina, Inc. drove declines within Health Care.

As we start 2024, it appears the market is trying to find its footing. On the one hand, it continues to be dominated by the macro uncertainties and debates around such hard-to-forecast issues like inflation levels, an economic soft landing vs. a recession, when the Federal Reserve will first cut rates and how many cuts will it make, wars in Europe and now the Middle East, U.S. trade relations with China, and the upcoming presidential election. On the other hand, the market has rewarded many secular growth companies. But the mere act of flipping the calendar sometimes has a short-term impact on market sentiment and trading. Some investors look to sell winners and buy laggards. Every sell-side analyst announces top picks and favorite trends for the new year.

However, arbitrary dates have absolutely no impact on fundamental business trends and secular themes. We remain true to our long-term investment mandate: leveraging our deep in-house research differentiation to identify 1) the powerful and undeniable secular growth trends disrupting industries and driving long-term growth; and 2) the exceptional businesses poised to benefit from these trends with, among other things, durable competitive advantages, cash-generative business models, and double-digit multi-year projected annual returns. We continue to believe that non-cyclical, durable, and resilient growth should be part of investors’ portfolios and that our strategy will deliver solid long-term returns.

Top Contributors/Detractors to Performance

as of 12/31/23

Contributors

  • Microsoft Corporation is a software company traditionally known for its Windows and Office products. Over the last eight years, it has built a $100 billion-plus cloud business, including Office 365, CRM product Dynamics 365, and infrastructure-as-a-service product Azure (including Azure AI services). Shares increased after posting strong quarterly results, with a material top line beat, upside across all three operating segments, and strong margin growth, despite ramping long tail investments behind AI. We remain confident that Microsoft is one of the best positioned companies in software with its vertically integrated software stack and broad sales distribution. We believe Microsoft will continue taking share across its business, driving durable, long-term, double-digit growth and best-in-class profitability.
  • Amazon.com, Inc. is the world’s largest retailer and cloud services provider. Shares of Amazon were up in the quarter. Reported results were better than consensus, with a significant beat in North American operating profit. We believe the AWS cloud division has many years ahead of growth, with recent customer optimizations attenuating. We also believe Amazon is well positioned in the short to medium term to meaningfully improve core North American retail profitability to above pre-pandemic levels, benefiting from its new regionalized fulfillment network and its growing margin-accretive advertising business. Longer term, Amazon has substantially more room to grow in e-commerce, where it has less than 15% penetration of the total addressable market. Amazon also remains the clear leader in the vast and growing cloud infrastructure market, with large opportunities in application software, including enabling generative AI workloads.
  • NVIDIA Corporation is a fabless semiconductor company that designs chips and software for gaming and accelerated computing. The stock rose in the fourth quarter, finishing the year up over 200% as a result of the unprecedented demand acceleration for generative AI (GenAI). NVIDIA is seeing the fruits of its nearly 20-year investment in AI and accelerated computing, with data center revenues growing five-fold from $3 billion in 2019 to $15 billion in 2022 and expected to triple to $45 billion in 2023. This extraordinary growth in revenues drove an even faster growth in earnings-per-share, resulting in multiple contraction despite the rapid rise in shares. While 2023 was a banner year for GenAI, we remain at the early innings of broad adoption. While the opportunity within the data center installed base is already large at roughly $1 trillion, the pace of innovation in AI in general, and GenAI in particular, should drive significant expansion in the addressable market, as GenAI creates a new way for human-computer interaction through language, and as companies are better able to utilize their data for decision-making.

Detractors

  • Argenx SE is a biotechnology company focused on autoimmune disorders. Shares fell in the quarter on the back of failed clinical trials in immune thrombocytopenic purpura and pemphigus vulgaris that called into question the applicability of the FcRn treatment landscape. While the exact nature of these data sets is nuanced and not entirely thesis-breaking, in our view, there are now real questions for the FcRn space that have not existed in the narrative for years. On the positive side, the strong launch of Vyvgart, with early sales tripling consensus expectations and global approvals coming earlier than guided, should continue to grow revenue and justifies a defensible valuation based on cash flow analysis. We expect 2024 to be another year of solid performance, with many catalysts including readouts in myositis, Sjogren's syndrome, multifocal motor neuropathy, and argenx's subcutaneous formulation launch.
  • GM Cruise Holdings LLC offers autonomous driving software and a fleet of vehicles aimed at reducing costs and improving the safety of transporting people and goods. We marked down the stock after the company lost its autonomous operating license in California. Despite achieving significant milestones over the past year, including completing millions of fully autonomous miles with passengers in various states and cities, an October incident involving a pedestrian in San Francisco prompted the California DMV to rescind the company's license. The regulator cited concerns about incomplete incident information disclosure. Consequently, this triggered a near-complete cessation of operations and key management changes at Cruise, as General Motors, the majority shareholder, charts a new course for the organization and its capital needs. While we strongly believe the life-saving technology achieved through the autonomous revolution holds immense value for both investors and society at large, the path to recovery for Cruise remains uncertain at this juncture, which is reflected in our valuation framework.
  • Illumina, Inc. is a leading provider of DNA sequencing platforms. The stock declined due to weak financial results, management turnover, and uncertainty about the outcome of the acquisition of Grail, which regulators have challenged on antitrust grounds and in the meantime has been burning cash flow and hampering Illumina's consolidated performance. Toward the end of the quarter, management committed to divesting the Grail business in 2024. We continue to believe Illumina has a dominant position in an attractive and growing end market and has a long runway for growth.

Quarterly Attribution Analysis (Institutional Shares)

as of 12/31/23

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 12/31/23

Baron Opportunity Fund (Institutional Shares) rebounded 15.10% in the fourth quarter, modestly outperforming the Russell 3000 Growth Index by 101 basis points due to stock selection, active sector weights, and tailwinds from volatility-related style factors.

Favorable stock selection in Information Technology (IT) accounted for the vast majority of relative gains in the period, helped by broad-based strength across software, IT consulting & other services, and semiconductors, where the main standouts were CrowdStrike Holdings, Inc., Gartner, Inc., and Advanced Micro Devices, Inc. (AMD), respectively. Cloud-architected SaaS cybersecurity vendor CrowdStrike was a top contributor after reporting strong quarterly results, with the company beating every key performance indicator, including an acceleration in net new annual recurring revenue (ARR) and record profitability. The company continued to report elongated deal cycles as more businesses look to consolidate vendors, noting that its win rates remained strong across legacy and next-gen vendors. CrowdStrike also highlighted an acceleration in revenue in two of its top three add-on products -- Cloud Security and Identity -- and noted that its LogScale/SIEM product had surpassed $100 million in ARR.

Shares of Gartner, a provider of syndicated research, soared after reporting excellent quarterly earnings results, with impressive growth in its core subscription research businesses. We believe Gartner will emerge as a critical decision support resource for every company evaluating the opportunities and risks of artificial intelligence (AI) for its business. We expect this development to provide a tailwind to Gartner’s volume growth and pricing realization over time. AMD is a global fabless semiconductor company focusing on high performance computing technology, software, and products that enable differentiated solutions for customers. Shares rose during the quarter as AMD launched its MI300 GPU electronic circuit and provided initial revenue guidance and commentary supporting strong revenue in 2024. While we expect AMD's Gaming and Embedded segments to be in correction in 2024, we anticipate stable market share in its Client segment following an inventory correction. AMD also continues taking share from Intel in server CPUs.

Somewhat offsetting the above was adverse stock selection in Health Care, Consumer Discretionary, Communication Services, and Industrials, where a handful of holdings were mostly responsible for the relative losses. Within Health Care, strong gains from Rocket Pharmaceuticals, Inc. and Viking Therapeutics, Inc. were overshadowed by disappointing performance from argenx SE, whose shares were pressured by failed clinical trials in immune thrombocytopenic purpura and pemphigus vulgaris. While the company is still analyzing the data to understand the reason for the trial failures, we do not think these events are thesis changing. On the positive side, the strong launch of Vyvgart, with early sales tripling consensus expectations and global approvals coming earlier than guided, should continue to drive revenue growth. We expect 2024 to be another year of solid stock performance, with many catalysts including the company’s subcutaneous formulation launch along with readouts in myositis, Sjogren’s syndrome, and multifocal motor neuropathy. DNA sequencing platform Illumina, Inc. also weighed on performance due to weak financial results, management turnover, and uncertainty about the outcome of the acquisition of Grail, which regulators have challenged on antitrust grounds. We sold our position.

Performance in Consumer Discretionary, Communication Services, and Industrials was hindered by declines from electric vehicle manufacturer Tesla, Inc., internet advertising demand-side platform The Trade Desk, and autonomous vehicle company GM Cruise Holdings LLC, respectively. Tesla’s stock detracted as the core automotive segment remained under pressure due to a complex macroeconomic environment, higher interest rates, factory shutdowns, and Tesla’s price reductions throughout the year, presenting pressure on the near-term growth and margin profile. Nevertheless, Tesla continued to generate sufficient gross profit to support a robust product development plan that can propel the automotive segment higher over time. Tesla also started to deliver its highly anticipated Cybertruck, its first pickup truck with a tremendous amount of consumer interest and a slew of new technologies within the car and its manufacturing lines. The refreshed Model 3 also seems to be generating strong demand while improving unit-level economics. Lastly, while early, investors now expect Tesla to benefit from its investment in AI through development of autonomous driving technology Dojo (an AI training compute), autobidder (an automated energy trading platform), and humanoid (a human-like robot).

Trade Desk’s shares were down due to a rare miss on quarterly results. Nonetheless, we believe the company is well positioned for 2024 and beyond, with strong tailwinds in Connected TV, a secular growth category capturing spend at an increasing pace from linear TV, retail media, platform upgrade adoption, audio, and more. Longer term, we remain positive on the company given its technology, scale, and estimated 10% share in the $100 billion programmatic advertising market, a small and growing subset of the $700 billion global advertising market. Cruise shares were revalued sharply lower after the company lost its autonomous operating license in California. Despite achieving significant milestones over the past year, including completing millions of fully autonomous miles with passengers in various states and cities, an October incident involving a pedestrian in San Francisco prompted the California DMV to rescind the company's license. The regulator cited concerns about incomplete incident information disclosure. Consequently, this triggered a near-complete cessation of operations and key management changes at Cruise, as General Motors, the majority shareholder, charts a new course for the organization and its capital needs. While we strongly believe the life-saving technology achieved through the autonomous revolution holds immense value for both investors and society at large, the path to recovery for Cruise remains uncertain at this juncture, which is reflected in our valuation framework.

as of 12/31/23

Yearly Attribution Analysis (for year ended 12/31/2023)

Baron Opportunity Fund (Institutional Shares) posted a significant gain of 49.98% for the year, outperforming the Russell 3000 Growth Index by 877 basis points due to stock selection, active sector weights, and tailwinds from style biases, chief among them being overexposure to the strong performing Beta and Residual Volatility factors.

Favorable stock selection in Information Technology (IT) and Consumer Discretionary accounted for most of the relative gains in the period. Within IT, the Fund benefited significantly from a combination of solid stock selection and favorable allocation effect in semiconductors, where shares of NVIDIA Corporation and Advanced Micro Devices, Inc. (AMD) were up triple digits. NVIDIA had a banner 2023, with the company’s stock rising nearly 240% as a result of the unprecedented demand acceleration for generative artificial intelligence (AI). The company is seeing the fruits of its nearly 20-year investment in AI and accelerated computing with data center revenues growing five-fold from $3 billion in 2019 to $15 billion in 2022 and expected to triple to $45 billion in 2023. This extraordinary growth in revenues drove an even faster growth in earnings-per-share, resulting in multiple contraction despite the rapid rise in shares. AMD’s shares ripped higher as the company began to see the early stages of recovery in its Client business and launched its MI300 GPU product while providing strong initial revenue guidance and commentary supporting data center GPU and CPU demand into 2024.

Strength in the sector also came from cloud-based commerce platform Shopify Inc. and several of the Fund’s software holdings. Shopify’s shares more than doubled as the company sold off the capital-intensive and money losing Shopify Fulfillment Network to Flexport while significantly refocusing the business on its core offerings, accelerating innovation, and increasing profitability. Despite a 23% headcount reduction, revenues accelerated to approximately 25% year-on-year growth, while operating margins are expected to expand by more than 10% year-on-year. The company also continued its horizontal addressable market expansion, significantly improving its enterprise, business-to-business, offline and international offerings while simultaneously strengthening its vertical platform capabilities. CrowdStrike Holdings, Inc., ServiceNow, Inc., Microsoft Corporation, Guidewire Software, Inc., and Cloudflare, Inc. were among the leaders in software after reporting strong financial results throughout the year.

Within Consumer Discretionary, the Fund benefited from its sizeable positions in electric vehicle manufacturer Tesla, Inc. and retailer and cloud services provider Amazon.com, Inc., whose share prices were up in excess of 80% for the year. Tesla’s shares rebounded after coming under significant pressure towards the end of 2022 due to investor concerns about macroeconomic uncertainty, softer demand, stronger competition, and headwinds to profitability. Throughout 2023, Tesla experienced a degradation in margins as it reduced prices, but, while margins declined, they remained healthy, allowed robust investments in growth, and significantly outperformed the negative EV margins of the vast majority of its competitors. 2023 also represented a record year for the Energy division's revenues and margins. Tesla continued to demonstrate its innovation engine, including launching its highly anticipated Cybertruck, initiating the production of its Dojo compute, releasing important updates to its Autopilot solution, and expanding its battery activities. Amazon was a top contributor after benefiting from a material improvement in overall operating profit and a better backdrop for technology stocks throughout much of the year. Apart from stock selection in IT and Consumer Discretionary, the Fund’s relative returns were enhanced by lack of exposure to the lagging Consumer Staples and Energy sectors, which together added 300-plus basis points of gains.

Partially offsetting the above was poor stock selection in Communication Services, Health Care, and Materials. Adverse stock selection in Communication Services came from ZoomInfo Technologies Inc., a leading provider of go-to-market business intelligence software. ZoomInfo’s shares detracted from performance for the period held, as macro weakness coupled with the outsized representation of private software companies among the company’s customer base caused growth to slow considerably, leading management to substantially reduce full-year guidance. Given difficulty ascertaining the potential for meaningful future growth, we decided to exit our position. Weakness in Health Care was broad based, led by disappointing returns from DNA sequencing provider Illumina, Inc. and biotechnology argenx SE. We detailed the reasons for their underperformance in the quarterly attribution review. On a positive note, disappointing stock selection in Communication Services and Health Care was somewhat offset by the Fund’s active weights in these sectors.

Performance in Materials was hindered by Farmers Business Network, Inc., a private company seeking to create a two-sided marketplace to connect farmers and agricultural data and supplies. Shares saw a material decrease in value during 2023, as the company struggled with a tight liquidity situation that reached a tipping point in July. The company then effectively recapitalized itself with a new round of funding, reorganized the senior management team and board of directors, and introduced a new plan to reach profitability faster on a much smaller revenue base with the divestment of multiple segments of the business and aggressive cost cuts to raise cash. It looks like the new entity will focus on key pieces of the agricultural inputs market along with the higher margin financials business. It has implemented operational improvements with a greater focus on collaboration and the prioritization of customer retention and direct-to-farmer revenue (instead of wholesale). There continues to be uncertainty around the nature of the steady state of the business following these major changes, but we believe, if the team can execute on its overall vision, a massive opportunity to disrupt the industry remains ahead.

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.