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Printmgr File Baron Funds® September 30, 2018 Quarterly Report “Why don’t you speak about the straw that is trampling on the rights of his shareholders? It will break the back of the bull market.” is reassuring to investors,” he told me, “that your Chairman and CEO. Large Investment Bank. firm invests in companies with good values. That October 2, 2018. is what will enable those businesses to have sustained and growing profitability. Favorability Before I prepare the “final final” draft of my matters. You are clearly not going to invest in a annual Baron Investment Conference speech, it’s business that is going to addict teens. Your cut never really “final” until after I have given it, I point is not to invest in businesses that society speak with friends to ask for suggestions on ultimately won’t tolerate. Baron is not going to topics they believe would be of interest to Baron traffic in something that the world could Funds’ shareholders. condemn.” When, in the first week of October, I asked the “I hate stocks. I hate the stock market. I CEO of one of the largest U.S. investment banks hate mutual funds. I want to sell for ideas, my friend didn’t hesitate. Most everything.” October 11, 2018. investors, he believed, and spoken like the trader he used to be, would like to hear what I thought An unusually talented individual with whom we would cause the bull market that began in had invested when he was building a large RONALD BARON March 2009 to end. publicly-owned business many years ago CEO AND CHIEF INVESTMENT OFFICER invested $50 million in Baron Funds earlier this “What everyone wants to know pre-midterm year. He called on the day in early October that elections, will be different post the elections,” he the Dow had fallen 800 points. “I hate stocks. I told me. “Whatever we discuss now will be “Portfolio insurance” is what exacerbated the hate mutual funds. I want to sell everything. I overwhelmed by the results of those elections in Crash in 1987 and significant CDS counterparty think I would prefer to be a lender rather than an just five weeks.” risk had an important role in the financial crisis 10 years ago. Further, “HFTs, high frequency investor in stocks,” he told me. He then listed several unpredictable “macro” algorithmic traders, presently account for more events that could be troubling. Presently, things than half of the daily trading volumes. Since TABLE OF CONTENTS seemed pretty good, he thought, which would HTFs are generally undercapitalized, a mistake or Letter from Ron 2 likely continue to be the case. “But, a successful just a fat finger, could hit markets like a Letter from Linda 4 cyberattack by a foreign power; the inability to hurricane!” Baron Funds Performance 10 fund budget deficits in Southern Europe; and, Baron Asset Fund 16 whether the balance sheet of Germany could In my opinion, the dramatic 10% market Baron Growth Fund 20 afford to absorb $2 trillion of Italian debt was of “correction” in the month of October was Baron Small Cap Fund 25 Baron Opportunity Fund 30 some concern.” Further, the U.S. economy is caused by exactly the market structure issues my friend described to me four weeks ago. It Baron Partners Fund 35 presently quite strong with wages increasing Baron Fifth Avenue Growth Fund 40 was not the result of any important change in faster than expected. “Assuming interest rates Baron Focused Growth Fund 45 continue to increase gradually, higher rates will business fundamentals or prospects. Which Baron International Growth Fund 50 not be an issue.” But, if the Fed believes inflation shows exactly how smart he is...and why he was Baron Real Estate Fund 55 is increasing faster than anticipated and the Fed able to become the Chairman of this bank from Baron Emerging Markets Fund 63 is “behind the curve,” that could be an issue. “In his start in an urban “hood.” Baron Energy and Resources Fund 68 1994, in a very strong economy, interest rates Baron Global Advantage Fund 74 One more thing. When I told him about our Baron Discovery Fund 79 increased 300 basis points in 12 months. At one Growth + “Values” themed meeting on point, the Fed raised rates 75 bps and were Baron Durable Advantage Fund 83 November 9, he warned me not to be Baron Real Estate Income Fund 86 raising them between meetings.” sanctimonious. “You are not the kind of investor Baron WealthBuilder Fund 92 But, in his opinion, “the most discomforting issue who would only invest in renewables. People are Baron Health Care Fund 98 is market structure.” The proliferation of ETFs has excessively focused on ESG (environmental, Portfolio Holdings 115 given traders an ability to invest in bond ETFs social and corporate governance). You are that own illiquid underlying securities. There are obviously more likely to invest in a company run now $1 trillion invested in bond ETFs and few by Howard Schultz who puts a nice picture on investors are even sure what is in those ETFs. his coffee cup and not so much in Gordon Gekko Further, people have been leveraging those ETFs who thinks greed is good.” “Where do you want like equities. My friend called these “structured to be on the curve?,” was his advice. “Invest in products the grandson of portfolio insurance Tesla because Elon is a genius and saving the and the son of credit default swaps (‘CDS’).” world or not because you are concerned that he Letter from Ron I answered that he should think about his after the Dow had already fallen to 8,000 from improved health care and likely greater inflation, investments with us as investments in its 14,000 peak the year before. That morning if economic growth accelerated. Since we try to businesses that just happen to be publicly there were numerous stories in general interest invest in companies that are growing 15% per traded. That means he can sell or buy at any newspapers and the financial press predicting an year, not the 7% per year of the stock market time he wishes at our Funds’ net asset values. impending second Great Depression and Dow and economy, we expect over the long term to This is regardless of whether his investments are Jones 2000!!! Pandemonium prevailed. continue to perform better than market priced fairly, or below or above what he believes benchmarks and our economy. Of course, we the intrinsic values of those businesses. “The At 7 AM that Friday, Henry Fernandez, Founder cannot guarantee that. and CEO of financial index provider MSCI, and I market doesn’t tell you what a business is worth. Every 25 years, the standard of living doubles. were interviewed on CNBC’s Squawk Box. Henry Only the price you can pay or receive for the A middle-class person now lives better than the is an immigrant from Nicaragua. His dad portion of it you own on a given day.” wealthiest person on Earth 100 years ago. Better had been a general in the Nicaraguan Army and, health. Better services. When I began to describe several of the after a government coup d’etat, had to flee with businesses in which Baron Funds has invested, he his family to America to avoid being murdered. The average middle-class person today has a stopped me when I spoke about Hyatt Hotels Henry and I spoke about the great democracy in higher standard of living than Henry Ford, John Corp. “I understand. I have known Tommy (Tom which we live; how we expected our country to Rockefeller, Andrew Carnegie, Henry Phipps and Pritzker, Hyatt Hotel’s Chairman) for a long emerge from the financial panic then taking Andrew Mellon 100 years ago. We are as certain time. OK. I like the idea of investing in place stronger; and, how investment opportunity that the average middle-class person 100 years companies like that. Thanks for explaining.” was everywhere. Baron was and remains a large from now will enjoy a higher standard of living Before we ended our call...he changed his shareholder in MSCI. MSCI’s stock price was $15 than Gates, Buffett, Zuckerberg, Musk, mind...or I guess you could say I changed his per share. MSCI’s share price is now $145 per Bloomberg, Bezos, Soros, and Icahn today. In mind...about selling. I told him that we know share. Baron and Henry have each made more large part because of their philanthropies. than $350 million on their MSCI investments in each other since 1980. I also mentioned that Just like the Pharaohs of Ancient Egypt couldn’t the past 10 years, almost 10 times the there were many periods when his company’s take their wealth with them...although they October 24, 2008 price for this unique and stock price had been depressed. We didn’t sell tried...neither can today’s entrepreneurs...nor important business. then since we didn’t think his share price on any by their incredible generosity unlike the particular day changed the value of his According to HFR, a hedge fund research firm, Pharaohs of ancient times do they evidence any business...either in the short term or the long signs of wanting to do so. term. hedge funds that “hedge against risk” missed most of the stock market rally since 2008. Baron Investment Conference 2018. I also reminded him that he twice spoke at our According to HFR, the average hedge fund has November 9, 2018. Metropolitan Opera annual meetings and told our shareholders that increased about 75% since December 2008, House, Lincoln Center.
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