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as of 12/31/18
U.S. equity indexes declined meaningfully during the quarter, with broad-based weakness across nearly all sectors. Growth and value indexes both fell, but the decline in growth stocks was more pronounced. Reasons for the sell-off included concerns over the looming trade war between the United States and China, indications that the Federal Reserve might increase interest rates several times during 2019, and some signs that global growth, particularly in China, might be slowing.
Baron Asset Fund declined in the fourth quarter. No sector contributed during an exceptionally challenging three months. Among sub-industries, only insurance brokers contributed, buoyed by the positive performance of Willis Towers Watson, the second largest contributor in the quarter. Information Technology (IT), Health Care, and Industrials investments detracted the most. Within IT, application software led the decline, including Guidewire Software, Inc., a systems software provider to the P&C insurance industry, and ANSYS, Inc., a market leader in simulation-driven product development. The sector also included second largest detractor Gartner, Inc. Declines in Health Care were led by health care equipment, including top detractor IDEXX Laboratories, Inc., and life sciences tools & services holdings. Industrials investments fell on overall weakness as concerns about slowing growth in China pressured the sector.
Despite the stock market’s poor performance during the past quarter, we remain optimistic about the prospects for U.S. equities. We are also encouraged by the market’s upward direction during the early part of January 2019. We believe that the economy remains generally robust and that the outlook for continued strength in earnings among the companies in our portfolio remains solid. The U.S. unemployment rate remains near an historic low, and most leading economic indicators remain positive. Although we are not expert in gauging the future direction of interest rates (and we believe that few such “experts” exist), we are encouraged that the Wall Street consensus has evolved to expect more modest increases by the Federal Reserve going forward.
We believe that our portfolio of well-managed, competitively advantaged, fast growing companies will continue to perform well, although we cannot guarantee that they will. We continue to believe that high-quality, mid-sized growth stocks represent a compelling long-term investment opportunity.
as of 12/31/18
as of 12/31/18
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 12/31/18
Baron Asset Fund declined 16.35% in the fourth quarter and performed roughly in line with the Russell Midcap Growth Index.
Outperformance of investments in Financials and Industrials, cash exposure in a down market, and higher exposure to better performing REITs within the Real Estate sector contributed the most to relative results. Stock selection in Financials added 125 basis points to relative results, driven by Willis Towers Watson Public Limited Company and MarketAxess Holdings Inc., the two largest contributors on an absolute basis after their share prices reacted favorably to strong third quarter earnings results. Specialty insurer Arch Capital Group Ltd., investment management tools provider FactSet Research Systems, Inc., and bank and wealth management company First Republic Bank also added value after their stock prices held up relatively well in a volatile market. Strength in Industrials came from the outperformance of data and analytics vendor Verisk Analytics, Inc. and diversified technology company Roper Technologies Inc. Verisk’s shares outperformed after the company reported solid third quarter financial results and hosted an upbeat investor day. Roper’s stock outperformed as the high-quality characteristics of the company’s business were positively regarded by investors in a volatile market. Roper is distinguished by its disciplined capital deployment, strong track record for creating shareholder value, and stable earnings with greater than 50% recurring revenue.
Information Technology (IT) and Consumer Discretionary investments and lack of exposure to the outperforming Consumer Staples sector detracted the most from relative results. Weakness in IT was partly due to the underperformance of Gartner, Inc., the second largest detractor from absolute results, as well as credit card processor Worldpay, Inc. Shares of Worldpay were down after investors reduced their growth expectations for 2019. Lack of exposure to systems software stocks, which were roughly flat in the index, and underperformance of ANSYS, Inc., Guidewire Software, Inc., and other application software stocks also hampered relative results. Within Consumer Discretionary, underperformance of global ski resort operator Vail Resorts, Inc. and venerable jeweler Tiffany & Co. weighed on relative results. Vail was the third largest detractor from absolute performance after the company sold slightly fewer season pass sales for this year’s ski season than investors expected. Tiffany’s shares were down sharply after third quarter sales growth decelerated from levels experienced earlier in 2018. However, we believe Tiffany’s ongoing transformation is a process that should be measured over years, not quarters.
as of 12/31/18
Investments in Health Care, Industrials, Financials, and Consumer Discretionary and lack of exposure to the lagging Materials sector added the most value. Health Care holdings outperformed after increasing more than 9% as a group, led by veterinary diagnostics leader IDEXX Laboratories, Inc. and DNA sequencing platform Illumina, Inc. IDEXX and Illumina were the top contributors to absolute results. Additionally, higher exposure to the sector, which was up slightly in the index, and outperformance of health care technology company Veeva Systems Inc. lifted relative results. Veeva’s shares increased sharply after reporting consecutive quarters of strong financial results. Veeva continues to report healthy margins growth driven by sustainable growth in both top and bottom lines. Strength in Industrials was mostly attributable to the outperformance of data and analytics vendor Verisk Analytics, Inc. and pest and termite control services provider Rollins, Inc. Verisk’s shares responded well to solid financial results in both the second and third quarters. The Insurance segment continues to perform well, and we are seeing signs of improvement in both Energy and Financial Services. Rollins’ stock price rose as the company executed in a consistent manner and broader pest control industry trends remained positive. Favorable stock selection in Financials, related to share price gains from FactSet Research Systems, Inc., MarketAxess Holdings Inc., and Willis Towers Watson Public Limited Company, was partially offset by higher exposure to this underperforming sector. FactSet’s stock price was buoyed by a large 15,000 seat deal win with Merrill Lynch Wealth Management. Performance in Consumer Discretionary was bolstered by the Fund’s sizeable position in global ski resort operator Vail Resorts, Inc., whose shares were up slightly for the year. Despite poor snowfall, Vail had a strong ski season last year and successfully increased pass sales by double-digits for the upcoming ski season. The company also utilized its strong balance sheet to acquire four additional resorts across the U.S., which further increased pass sales.
Real Estate investments and lack of exposure to the strong performing Consumer Staples sector weighed the most on relative performance. Within Real Estate, underperformance of data center REIT Equinix, Inc. and higher exposure to this lagging sector hindered relative results. Equinix was the third largest detractor from absolute performance.