Review and Outlook

as of 09/30/22

The market had some wild swings during the third quarter. After rallying through the first half, the Russell 2000 Growth Index gave back all its gains to end the quarter flat. Signs of an economic slowdown initially gave the market hope that we were nearing the end of interest rate hikes. However, reports of broad-based and frustratingly sticky inflation continued. Insistent that defeating inflation was its highest priority, the Federal Reserve stuck to its tightening program and has now raised rates five times this year, the most aggressive hiking in 30 years. We are not sure the Fed is pursuing the correct policy, as we see cyclical market forces already leading to significant declines in many inputs, and companies are reporting slowing business conditions and less price pressure, suggesting that inflation is cooling. Yet, the policy is very much in place right now, hurting economic prospects and weighing heavily on stock prices. The quarter ended with investor fears that recession and lower corporate earnings were ever more likely.

Baron Small Cap Fund declined in the quarter. Financials and Consumer Staples holdings contributed. Industrials, Consumer Discretionary, and Communication Services holdings detracted the most. Kinsale Capital Group, Inc. led advances within Financials. Shares of this specialty insurer increased after the company reported quarterly results that exceeded analyst estimates. Snack company UTZ Brands, Inc. drove modest gains within Consumer Staples. Top detractor Mercury Systems, Inc. led weakness within Industrials, while second largest detractor Holley Inc. led declines within Consumer Discretionary. Depreciation of the Communication Services sector was led by Liberty Broadband Corporation, the holding company of cable company Charter Communications.

As we start the fourth quarter, the Fed continues its crusade against inflation. The unemployment rate remains exceptionally low and inflation reports have not moderated. With more expected hikes to come on top of supply chain snafus, labor availability/cost issues, softening demand, and foreign exchange headwinds, more and more companies are reducing earnings outlooks as they anticipate a slowdown.

While the market is largely focused on near-term estimates, it is our belief that we should not adjust our long-standing and time-tested investment approach. We are monitoring our investments closely, focusing on not just near-term trends and challenges but also longer-term opportunities. Most of our businesses have not yet seen a slowdown, but managements are preparing themselves for softer times ahead. Our long-term thesis and projections for our holdings are intact; however, they may take longer to achieve as near-term growth will be likely slower than we had expected. Still, we think the upside is unusually high, primarily because we believe the economy will stabilize and the companies we own will grow significantly. We remain invested as we are confident the tide will turn sometime before interest rates crest, even if business results are under pressure at that moment.

Top Contributors/Detractors to Performance

as of 09/30/22


  • Shares of Gartner, Inc., a provider of syndicated research, contributed to results. Business conditions remained strong, with Gartner’s research business compounding at double-digit levels. We expect sustained revenue growth and renewed focus on cost control to drive margin expansion and enhanced free cash flow generation. The company’s balance sheet is in excellent shape and can support aggressive repurchases and bolt-on acquisitions, in our view.
  • Shares of Aspen Technology, Inc., a leader in process automation software, contributed to performance. Organic trends continued to improve, with annual contract value growing 7.8% from 7.4% in the prior period. We view the recent transaction with Emerson as transformational. We expect Aspen management to improve the growth, profitability, and cash flow of the acquired businesses by converting them to recurring revenue models while leveraging Emerson’s vast sales force to improve its own growth. We also expect the new company to be more aggressive with M&A.
  • Axonics, Inc. is a medical device company focused on treatment of urinary and bowel dysfunction. Products include the Axonics System, a novel implantable sacral neuromodulation (SNM) device, and Bulkamid, an injectable product to treat stress urinary incontinence in women. Shares increased as the company continued to execute on the commercial rollout of its devices and is seeing strong uptake for its new recharge-free SNM product. We think the company is well positioned in high-growth markets that are less than 1% penetrated today.


  • Shares of Mercury Systems, Inc., the leading Tier 2 defense electronics integrator, declined in the third quarter. Mercury reported quarterly results and gave forward guidance for its 2023 fiscal year, both of which were below consensus. The misses were due to inflation, delays in the government defense budget, supply chain issues (including failure of delivery by suppliers), and labor issues resulting from the pandemic. On a positive note, demand is strong, and we expect significant share accretion over the long term as these issues resolve.
  • Holley Inc. is a specialty manufacturer of high-performance automotive aftermarket products. Shares fell on disappointing results and lowered guidance due to microchip shortages and other supply-chain challenges that prevented it from building and shipping many of its most popular products. Results were also impacted by a sell-down of reseller inventories due to macroeconomic uncertainty. Underlying demand for Holley's portfolio targeting the car enthusiast remains strong and we expect a solid recovery once supply-chain issues abate.
  • ICON Plc is the second largest global contract research organization, providing outsourced drug development services to biopharma clients. Shares fell on investor concerns about softer biotechnology funding weighing on growth. We remain investors. ICON has yet to see negative fallout, demand from major pharmaceuticals is solid, and pre-commercial biotechnology represents a relatively small percentage of revenue. We think funding concerns are overblown, and, post its PRA Health Sciences merger, ICON is better positioned to achieve benefits of scale and cost/revenue synergies.

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 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.