Baron Funds: The Masters of Growth Investing

On a recent sunny morning in New York City, Ron Baron, founder, chairman and chief executive officer of Baron Capital, is standing and studying Sixteen Jackies, a famous painting of Jackie Kennedy by Andy Warhol that Baron purchased through a dealer. The office walls are adorned with dozens of paintings by Warhol, Roy Lichtenstein, Jasper Johns and other modern art masters. In Baron's corner office, Babe Ruth's 1920 contract and a 1940 letter written by Albert Einstein about the plight of Jews in Europe hang on the walls; President John F. Kennedy's rocking chair sits by a table. The view from the 48th floor of the General Motors Building on Fifth Avenue is spectacular: You can see all of Central Park, the Upper East and West sides of Manhattan and both the Hudson and East rivers.

Baron, a multibillionaire, is one of the greatest growth-stock investors of all time, investing in companies with the potential to increase profits at a faster-than-average rate. During a time when relatively few actively managed funds can beat their respective index benchmarks (and more investors are gravitating to passive indexing), Baron's long-term approach to growth investing continues to shine.

As of the end of the first quarter, 15 of 17 funds, representing 98.5% of Baron Funds' $49 billion of assets under management, had beaten their index benchmarks since inception, several of them by an annualized five percentage points or more. Baron Growth is the top midsize-company growth fund since its inception in 1994; Baron Partners (BPTRX) and Baron Focused Growth (BFGIX) are the top performers among all mutual funds since their inceptions in the 1990s.

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Ron Baron is a trim, remarkably spry 79-year-old. He's certainly old and wealthy enough to retire to his 59-acre oceanfront estate in East Hampton, Long Island. But a conversation with him quickly reveals an almost childlike enthusiasm and thirst for knowledge.

"He has an incredible passion for what he's doing," says Linda Martinson, founder, president and chief operating officer of Baron Capital, who has been with Baron since 1983. "He's the most curious person on the planet. He wants to learn about everything."

Baron grew up in Asbury Park, a beach town in New Jersey where he drove an ice cream truck and worked as a lifeguard to help pay for college. His parents wanted him to be a doctor, but he didn't get into medical school. In any case, he caught the investment bug at a young age. Baron recalls investing $1,000 of gift money from his bar mitzvah in Monmouth County National Bank, a local bank that was soon taken over. "All of a sudden, my $1,000 became worth $1,700," he says. "I said, 'Wow, there's nothing to this.' I was always interested in the stock market."

After working as a security analyst on Wall Street through the 1970s, he founded Baron Capital in 1982 with $100,000 in capital. For much of the first decade, he mainly managed private partnerships before launching mutual funds in 1987.

From 1992, when the firm managed $150 million, Baron calculates that his funds have generated more than $44 billion in realized and unrealized gains. Fund offerings have expanded to include foreign stocks, healthcare and real estate, but always with the same growth focus.

"We only do one of kind of investing," says Martinson, "and we do it well."

Patience in the Stock Market Pays Off

One distinguishing feature of Baron Capital is its unusually long-term approach to investing. For example, Baron has held stock in Charles Schwab (SCHW) since 1992, Choice Hotels (CHH) since 1996 and Vail Resorts (MTN) since 1997. The average holding period for a stock is six to seven years, compared with less than a year for the fund industry, says Michael Baron, who comanages Baron Partners with Dad.

The approach resembles that of the private-equity industry, where investors expect to hold shares in private enterprises for five or more years when investing. Michael recalls that as he was growing up, whenever his father discussed investing, "It was not what stock was up or down, but about businesses, what made them special."

"A lot of investors say they're long term, but then they sell in a bad market," says Michael Lippert, who manages Baron Opportunity (BIOPX). "The pool of investors focused on what a company will earn in five years is much smaller than on what it'll earn next quarter or year," says Andrew Peck, co-chief investment officer (with Cliff Greenberg) and a portfolio manager who joined the firm in 1998. "If you focus on the short term, it's easier to fall into the trap of preoccupation with stock movements rather than the fundamentals of a business."

Baron only invests in businesses that it believes can double in market value in five to six years, which implies compounded growth of 15% per year.

Several Baron funds, including Growth and Focused Growth, have achieved the 15% annualized threshold in returns over decades (the stock market has returned about 10% over the long haul). "We look for companies that can grow faster for longer," says Lippert, who is also the firm's head of technology research. But that doesn't mean that stock movements will be smooth over those five years, notes Lippert as he traces a squiggly but upwardly trending line on the wall.

Obviously, the number of such persistent growth companies is limited. The firm's 43 analysts (including fund managers) focus on several characteristics in their research. They seek businesses that have durable competitive advantages and large addressable markets with strong long-term growth opportunities that are run by top-notch management teams. "Ron always asks me what the company can do differently," says Lippert.

Baron investment professionals often spend months researching a firm before investing – and then maintain due diligence once the security is in the portfolio. Critical to the process is devoting considerable amounts of time to sitting down with senior management teams to understand what makes them tick, a part of the job that Ron Baron particularly relishes.

"He is foremost an analyst," says Martinson. "He has to know everything about hotels, cars, pharmaceuticals or any industry he's researching."

In conversation with Ron Baron, a couple of things jump out. One is his phenomenal head for numbers: He seems to recall the price, market value and performance of almost every stock he has purchased over a half-century of investing. The other is how his inquisitive mind absorbs lessons and insights gleaned from others over time, which he then applies to his investing.

For example, 45 years ago he recalls a brokerage executive teaching him the importance of analyzing company revenues as well as profits. ("You can't make up sales; you can make up earnings per share," he recalls the executive saying.) He cites how, decades ago, Hyatt Hotels' (H) late Jay Pritzker taught him how to value hotels. In more recent times, he has learned quite a bit about engineering and science from conversations with Elon Musk – Baron is a very large shareholder in both Tesla (TSLA) and SpaceX, Musk's privately owned rocket and space launch outfit.

Instilling the Baron Culture

The Baron way is drilled into the staff on a daily basis. "He's demanding about following the Baron investment philosophy," says Michael Baron. "All investments must meet high hurdles." Ron Baron, who still visits factories as well as chatting up corporate executives most days, tells his portfolio managers not to be afraid to ask about anything in their company meetings. "There are no dumb questions," he says.

Extremely low staff turnover helps maintain consistency. Four of the five original employees are still with the firm. Portfolio managers, expected to invest in the funds they manage, are long-tenured, and most (including both Michael and David Baron, who comanages Focused Growth with his father) started as analysts and worked their way up. Very few analysts or fund managers leave the firm, which has never had layoffs.

An open and transparent office environment is designed to foster collaboration. "I think of us as a big Baron family," says Martinson. Each year, Baron Capital hires two or three analysts, generally right out of business school. Analysts are assigned to sectors, such as healthcare, technology or real estate companies, and rigorously trained in the Baron way. "My role is to make the processes repeatable," says Lippert, who joined in 2001 as a research analyst and mentors them today.

Analysts build models of projected cash flows and earnings for companies, but the research approach is nearly entirely qualitative. Executives file into the office every day to discuss their businesses with analysts and managers. As co-chief investment officer, Peck says that part of his role is to ensure that all 18 funds – the newest, Baron Technology (BTECX), was launched in January 2022 – are investing in the same fashion. If a fund's turnover seems high or portfolio diversification appears lower than normal, he may have a word with the manager.

Business as Usual at Baron Capital

This year has been a dreadful one for stocks, particularly growth stocks, and Baron is far from immune. Baron Opportunity fell 34% from the start of 2022 through June 3. Not surprisingly, the fund managers aren't perturbed because they are focused on the long term and not overly concerned about short-term gyrations of stock prices, which can trade based on investor fear and sentiment.

"When there's dislocation in the market, such as this year, good companies are available at irrational prices," says Lippert. "I think now is a great buying opportunity."

Ron Baron is unfussed and recollects how his funds survived and prospered through bear markets in 1987, 2000 and 2008.

For example, today he holds about $6 billion in shares of Tesla (having sold $1 billion in shares along the way), whose volatile stock has plunged this year along with other tech stocks. He rattles off long-term projections for Tesla auto sales and rising gross profit margins as he explains why he thinks the stock could quadruple again in 10 years. Baron thinks he can make at least 10 times his money in 10 years with SpaceX. He clearly has enormous confidence in Elon Musk. "I think he might be from another planet, actually," he quips.

Small and midsize firms have been Baron's stock in trade for 50 years, and he still spots value in many of them. But he allows that bear markets do focus the mind. "When you lose money, it pushes you to think more about valuation and ensuring that the businesses in which you're investing have a distinct, enduring competitive advantage."

Inflation, a hot topic in today's markets, has always been an obsession of sorts with Baron because he considers maintaining and increasing purchasing power the raison d'être for investing, and he strives for returns that are well above the long-term rate of inflation.

Interestingly, he is less concerned than many observers that today's inflation will be difficult to conquer. "Getting out of deflation is very, very hard," he says. “Getting out of inflation is easy: All you do is raise interest rates, tighten credit and you slow down the economy. When prices of commodities, for example, go very high, that's a signal for businesses to invest, bring on capacity and increase supply." Once supply and demand are more in sync, inflation will subside.

And so, despite the awful market, it's business as usual at Baron Capital. Every year the firm hosts a high-profile investment conference that includes surprise entertainment. Past performers include Paul McCartney, Elton John and Billy Joel (one performer whom Baron would like to perform someday is Bruce Springsteen, who hails from Baron's hometown of Asbury Park). Any shareholder with at least $30,000 invested in a Baron fund is eligible to attend and pepper Baron fund managers with questions. The conference was canceled due to COVID the past two years, but the show will go on this November at Lincoln Center's Metropolitan Opera House.

Ron Baron says he won't step down until he's incapacitated, and clearly he still enjoys his job and is still learning. "He loves the challenge, the intellectual stimulation," says Michael Baron. "It keeps him young."

When he does pass from the scene, control of the business will remain in the Baron family, says Martinson. Michael and David Baron, tutored at the feet of the master from a tender age, will take the reins. Don't expect dramatic change. "Our method hasn't changed in 40 years," says Michael. "My father has imparted his investment philosophy to everyone." And the goal will remain the same, he adds: "We want to be thought of as the preeminent public-market growth investor."

Baron Funds Worth Buying

Just as the portfolio managers do, think long term if you invest in a Baron fund. Fees, generally around 1.3%, are relatively high. "We think people get value for what we deliver," says Linda Martinson, chief operating officer of Baron Capital. Baron Funds produces excellent, informative quarterly letters, which are well worth reviewing prior to making an investment. Listed below are some of our favorite Baron funds.

Baron Asset (BARAX) is a diversified mid-cap growth fund managed by Andrew Peck. The largest holding is Gartner (IT), the leading research outfit in the tech sector worldwide, which Asset has held since 2007. "If you believe that the trend is for technology to become more pervasive and complex in all of our lives, then it's hard to see that Gartner isn't attractive over the long term," says Peck. The second-biggest position is Idexx Laboratories (IDXX), a leading producer of testing and diagnostic devices for pets and livestock. Idexx has been a holding since 2006.

In Baron Opportunity (BIOPX), a growth fund that invests in companies of all sizes, manager Michael Lippert prefers industries with long runways, such as cloud computing, genomics, electric vehicles and cybersecurity. His top three holdings – Microsoft (MSFT), Google parent Alphabet (GOOGL) and Amazon (AMZN) – are the leading players in the cloud. Lippert thinks all three stocks can double in value within five to six years, which is the standard target for Baron's investments.

Baron Emerging Markets (BEXFX) is a member of the Kiplinger 25, the list of our favorite actively managed no-load funds. Michael Kass, who has piloted the fund since its inception in 2010, is particularly bullish on India, where he says dramatic tax reform is increasing transparency, productivity and competitiveness. "India is in the very early stages of a virtuous investment cycle that could go on for years and years," he says. Valuations are cheaper in China, where Kass is focusing on industries including robotics, electric vehicles, software and biotechnology.

Alternatively, consider investing in Baron Wealthbuilder (BWBFX), a sort of fund of funds with allocations of differing proportions to 16 different Baron funds. Launched in 2017, WealthBuilder is jointly run by Ron and son Michael Baron. Since inception through June 3, the fund has returned 13.5% annualized, nearly twice the return of the MSCI All-Country World Index.