Review and Outlook
U.S. stock markets experienced significant volatility in the first quarter, driven by concerns over the potential for increased interest rates, declining oil prices, the strong dollar, mixed domestic economic data, and corporate earnings disappointments. While overall gains were moderate, small and mid caps did better than large caps. The Russell Midcap Growth Index gained 5.38%, while large cap indexes were flat to slightly up.
After declining more than 40% in the fourth quarter, oil prices dipped another 11%, ending the first quarter at $48 per barrel. The decline in the price of oil since June 2014 translates to savings of close to $1 billion per day for U.S. oil consumers.
On March 18, the Federal Open Market Committee removed forward guidance that they would be “patient” on hiking rates. Analysts are now predicting the first rate hike sometime later this year. Elsewhere, banks moved in the opposite direction. This divergence caused the U.S. dollar to surge.
Domestic economic reports were mixed. The unemployment rate dropped to 5.5%, a post-recession low. GDP growth remained subdued at 2.2% in the fourth quarter. Corporate profits were also mixed. While foreign profits declined 5.3% in 2014, domestic profits rose slightly, reaching a record high in the fourth quarter. This trend favored domestically focused smaller cap companies.
Baron Partners Fund increased in the first quarter. Financials, Information Technology (IT), and Industrials contributed the most. Utilities, Consumer Discretionary, and Energy detracted. Performance of the Financials sector was driven by the Fund’s top contributor, Gaming and Leisure Properties, Inc. IT contributed on strong performances by CoStar Group, Inc. and FactSet Research Systems Inc., which were the third and fourth biggest contributors, respectively. Shares of FactSet, a market data vendor, rose on reports of accelerated organic revenue growth, enhanced seat count additions, and meaningful earnings growth. Performance of the Industrials sector was driven by analytics vendor Verisk Analytics, Inc. and aircraft leasing company Air Lease Corp. Utilities detracted due to a stock drop in ITC Holdings Corp., which fell as investors exited utilities and other yield-oriented investments. With three of the top five detractors, including top detractor Tesla Motors, Inc., the Consumer Discretionary sector weighed on Fund performance. Energy lost ground due to sinking oil prices, and we exited our two sector investments.
We think the trend in the past two quarters favoring small and mid cap companies will continue, in part due to the persistence of low oil prices and a strong dollar. We believe conditions will also favor our style of fundamental investing, as well as companies in sectors and sub-industries such as airlines, cruise lines, automotive companies, hotels & resorts, and health care.
Top Contributors/Detractors to Performance
Quarterly Attribution Analysis
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.
The Baron Partners Fund (Retail Shares) increased 2.56% in the first quarter, yet underperformed the Russell Midcap Growth Index by 282 basis points, due to a combination of relative sector weights and stock selection.
The Fund may use leverage and is likely to do so when we believe prospects for businesses are favorable and stock prices of those businesses do not reflect those prospects. As of March 31, 2015, Baron Partners Fund had 114.8% of its net assets invested in securities, and the use of leverage in favorable market conditions during the quarter contributed 88 basis points to relative results.
Outperformance of the Fund’s investments within the Financials and Industrials sectors contributed the most to relative performance. Strength in Financials was mostly attributable to the outperformance of Gaming and Leisure Properties, Inc. (a REIT), which was also the Fund’s largest contributor on an absolute basis in the quarter. Within Industrials, outperformance of the Fund’s two largest holdings in the sector, Air Lease Corp. and Verisk Analytics, Inc., added the most value. Shares of Air Lease, which leases aircraft to commercial airlines, rose on solid quarterly results as the company continues to benefit from strong demand for replacement of older aircraft and for more lift in Asia. Shares of Verisk, which provides information about risk to companies in the insurance, health care, and mortgage industries, increased on reports of stellar financial results. Verisk’s core Insurance businesses grew by roughly 12%, while its newer Financial Services and Health Care business units grew 25% and 22%, respectively.
The Fund’s investments within Consumer Discretionary and Health Care and its larger exposure to the lagging Utilities sector through its investment in ITC Holdings Corp. detracted the most from relative results. Within Consumer Discretionary, stock selection and, to a lesser extent, the Fund’s meaningfully larger exposure to this underperforming sector weighed on relative performance. Weakness in the sector was mainly due to the underperformance of Tesla Motors, Inc., which was also the Fund’s largest detractor on an absolute basis during the quarter. Global lodging company Hyatt Hotels Corp. and casino operator Wynn Resorts Ltd. also hurt relative performance in the sector. Hyatt’s shares fell slightly after the company generated slightly lower-than-expected unit growth in its fiscal fourth quarter, while Wynn’s shares declined due to the Chinese government’s anti-corruption campaign, which has resulted in a slowdown in Macau and lower spending at casinos there. Within Health Care, the Fund’s lack of exposure to the outperforming biotechnology and pharmaceutical sub-industries detracted 75 basis points from relative performance. Additionally, the Fund’s largest holdings in the sector, IDEXX Laboratories, Inc. and Illumina, Inc., struggled to keep pace with their index counterparts after significantly outperforming last year.
Back to Top
Invest In Baron Funds Today