Review and Outlook

as of 12/31/20

In the fourth quarter of 2020, equity markets marched higher, continuing their rally of the prior two quarters. Markets looked past an alarming spike in the number of COVID-19 cases and instead focused on positive news around vaccines, the U.S. election results, and continued monetary and renewed fiscal stimulus. While growth equities underperformed value stocks, growth was still ahead by a wide margin for the year. Many of the themes in which we invest – e-commerce; electronic payments; digital entertainment, media, and advertising; digital workflows; cloud computing; cybersecurity; and genomics – proved critical to allowing businesses and people to carry on with life and work during the pandemic.

It proved to be a favorable investing environment for Baron Opportunity Fund, which increased in the quarter to end the full year up nearly 89%. Information Technology (IT), Health Care, and Communication Services holdings contributed the most. IT’s positive performance was led by cloud communications company RingCentral, Inc., whose stock climbed on continued acceleration in its business and a major distribution deal with Vodafone. With 15 out of 19 holdings appreciating by double- or triple-digits, Health Care had a strong quarter. Second largest contributor Pacific Biosciences of California, Inc. led gains within the sector after its stocks rose by nearly 168%. With 8 out of 11 holdings increasing by double-digits, including third largest contributor Snap Inc., Communication Services also saw broad sector-wide strength in the quarter. The Real Estate sector was a modest detractor due to share price declines in two out of five investments.

What do we expect for 2021? Consensus expectations appear to be that mass vaccination will be successful and we will emerge into a post-COVID-19 world hopefully by summer. In addition, the consensus view is that the post-pandemic economic recovery will be significant, supported by accommodative monetary and fiscal policy and continued low interest rates. Many predict that our politics and governance will become more stable and potentially more bipartisan with a new administration and a 50/50 Senate. If these things come to pass, we believe it will be a favorable environment for the market and our strategy.

On the other hand, these things may not come to pass. We think the immediate future is almost impossible to predict with any accuracy. However, we don’t have to answer the unanswerable. As we have always done, we continue to focus our research, analysis, and investment decisions on identifying the secular growth trends that will drive economic growth going forward, regardless of short-term economic cycles or stock market gyrations, and the individual companies that are leading or riding those trends and possess sustainable competitive advantages, profitable business models, and long-term-oriented managers.

Top Contributors/Detractors to Performance

as of 12/31/20

Contributors

  • Tesla, Inc. designs, manufactures, and sells fully electric vehicles, solar products, and energy storage solutions. The stock increased on strong financial results, including profitability that exceeded market forecasts and strong growth across different geographies and vehicle programs. Newly released full self-driving functionality could also lead to improving unit economics and growth opportunities, in our view. Lastly, Tesla joined the S&P 500 Index, a meaningful milestone that expands the potential shareholder base. 
  • Pacific Biosciences of California, Inc. (PacBio) provides long-read DNA sequencing systems to help scientists conduct genetic analysis. Shares performed well for the quarter. We believe there is increasing excitement about the potential for its platform as it lowers sequencing costs and seeks to move beyond its current commercial niche. Recently appointed CEO Christian Henry previously served as CFO and Chief Commercial Officer at Illumina, Inc., and we think he is well-qualified to commercially execute on PacBio’s differentiated long-read platform.  
  • Snap Inc. is the leading social network among teens and young adults in the U.S. Shares of Snap were up this quarter on excellent financial results, including revenue growth that benefited from a recovery in ad spend and evidence of impressive leverage. We continue to view Snap favorably as the company sustains its rapid pace of product innovation and expands its ecosystem through premium partnerships and increased developer accessibility, helped by its unique audience reach, powerful video business, improved ad products,​​​ and robust augmented and virtual reality technology. 

Detractors

  • Alibaba Group Holding Limited is the largest retailer and e-commerce company in China. Alibaba operates shopping platforms Taobao and Tmall and owns 33% of Ant Group, which operates Alipay, China's largest third-party online payment provider. Shares were down on the news that Chinese regulators had launched an investigation into Alibaba for suspected monopolistic behavior. We continue to believe Alibaba's core business remains highly profitable, complemented by rapid growth in the cloud business and inflection in the Cainiao logistics and New Retail segments.
  • Vroom, Inc. is an e-commerce platform that buys and sells used vehicles online and through its app, handling inbound and outbound transportation and offering insurance, financing, and warranty products through third-party partnerships. Shares were down in the quarter given customer service challenges, which we expect to be resolved in the near term. In our view, given its differentiated asset-light approach that should drive higher ROIC than that of its competitors, Vroom could be one of several winners in the $840 billion-plus U.S. used auto market, of which less than 0.1% is online.
  • Splunk, Inc. leverages its scalable data analytics solutions to allow customers to more efficiently manage operations across a broad array of use cases including IT operation and cybersecurity. The stock fell after Splunk reported a meaningful deceleration in contract activity within its large customer segment. Management withdrew its long-term targets as it evaluates the implications of these recent changes. We maintain conviction as we expect cloud and new pricing to support growth, although it may take longer to achieve in the pandemic-impacted spending environment.

Quarterly Attribution Analysis (Institutional Shares)

as of 12/31/20

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 12/31/20

Baron Opportunity Fund (Institutional Shares) was up 23.02% in the fourth quarter, significantly outperforming the Russell 3000 Growth Index by 10.61% primarily due to stock selection. Style biases also added value, driven by underexposure to the weak performing size factor and overexposure to the strong performing residual volatility and mid capitalization factors.

Outperformance of investments in Health Care, Communication Services, Consumer Discretionary, and Information Technology (IT) contributed the most to relative results. Health Care holdings outperformed after appreciating more than 40% as a group, with long-read DNA sequencing systems provider Pacific Biosciences of California, Inc. leading the way. Pacific Biosciences was the second largest contributor due to increasing excitement about the potential for its platform as it lowers sequencing costs and seeks to move beyond its current commercial niche. Arrowhead Pharmaceuticals, Inc., a developer of RNAi therapeutics for a long list of diseases, and CareDx, Inc., the market leader in transplant diagnostics, also performed well in the sector. Arrowhead’s shares rose sharply given a multitude of upcoming data readouts, a large financial deal with Takeda, and the prospect of increasing RNAi applications from simply the liver to other tissue types (i.e., other diseases). CareDx’s stock price nearly doubled as the company continued to successfully execute on its growth strategy. The company reported roughly $128 million in kidney testing revenue in 2020, up about 72% year-over-year. Strength in Communications Services came from social network Snap Inc. and visual search platform Pinterest, Inc. Snap was the third largest contributor after reporting excellent financial results, including revenue growth that benefited from a recovery in ad spend and evidence of impressive leverage. Pinterest’s share price increased as strong domestic and international monetization efforts pushed third quarter results well above Street expectations and previous company guidance. We believe these results demonstrated an inflection in Pinterest's capabilities. With international markets representing about three-quarters of Pinterest users but only a mid-teens percentage of revenues, we believe international monetization is still in the early stages. Within Consumer Discretionary, outperformance of electric vehicle manufacturer Tesla, Inc. and solid state battery technology developer QuantumScape Corporation added the most value. Tesla was the top contributor due to strong operating results, the release of full self-driving functionality, and inclusion in the S&P 500 Index, a meaningful milestone that expands the potential shareholder base. Shares of new addition QuantumScape rose sharply post-merger due to investor excitement about the growth opportunities the company could capture with its battery technology.

Cash exposure in a sharp up market detracted the most from relative results.

as of 12/31/20

Yearly Attribution Analysis (for year ended 12/31/2020)

Baron Opportunity Fund (Institutional Shares) surged 89.28% for the year and meaningfully outperformed the Russell 3000 Growth Index by 51.02% due to stock selection and, to a lesser extent, relative sector weights and an assortment of style biases.

Outperformance of investments in Consumer Discretionary, Health Care, IT, and Communication Services and lower exposure to the lagging Industrials sector added the most value. Within Consumer Discretionary, a massive gain from electric vehicle manufacturer Tesla, Inc. was the primary driver of outperformance in the period. Tesla was the top contributor after exceeding key growth and profitability expectations in a difficult environment. Several other holdings also performed well in the sector, namely Latin American digital marketplace MercadoLibre, Inc., online used car seller Vroom, Inc., solid state battery technology developer QuantumScape Corporation, and retailer and cloud services provider Amazon.com, Inc. Favorable stock selection in Health Care was partly due to a gain of 380% from chemical simulation software leader Schrodinger, Inc. The company was one of the most successful IPOs during the year given broad excitement relating to its ability to design better drugs. Performance in the sector was also bolstered by long-read DNA sequencing systems provider Pacific Biosciences of California, Inc. and biotechnology companies Acceleron Pharma Inc. and argenx SE. Shares of Pacific Biosciences were driven higher by investor enthusiasm surrounding the appointment of new CEO Christian Henry, a well-regarded former executive at Illumina. Acceleron’s stock price rose sharply early in the year on positive reports for the company’s pulmonary arterial hypertension treatment Sotatercept across all studied markers. This represents Acceleron’s second potential commercial drug and a new clinical vertical. Argenx’s shares moved sharply higher following the company’s successful Phase 3 trial in Myasthenia Gravis, where the data quality all but ensures regulatory approval and commercial launch over the next 12 months. Strength in IT was widespread, led by triple-digit gains from data warehouse platform Snowflake Inc., cybersecurity vendor CrowdStrike, Inc., web development services provider Wix.com Ltd., and voice and video collaboration software platforms RingCentral, Inc. and Zoom Video Communications, Inc. These companies benefited from accelerated adoption of their products by many enterprises and/or consumers due to the COVID-19 pandemic. Within Communication Services, outperformance of social network Snap Inc., visual search platform Pinterest, Inc., marketing solutions provider ZoomInfo Technologies Inc., and real estate and rental marketplace Zillow Group, Inc. added the most value.

Cash exposure in a favorable market environment was the only material detractor from relative performance.

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.