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Dear New Asia Fund Shareholder:
Baron New Asia Fund® (MUTF:BNAIX, the Fund) gained 10.77% (Institutional Shares) during the second quarter of 2024, while its primary benchmark, the MSCI AC Asia ex Japan Index (the Benchmark), was up 7.20%. The MSCI AC Asia ex Japan IMI Growth Index (the Proxy Benchmark) gained 7.58% for the quarter. The Fund outperformed both the Benchmark and the Proxy Benchmark during a solid quarter for global equity returns.
During the second quarter, inflation readings failed to slow sufficiently to clearly warrant the initiation of a Federal Reserve (the Fed) easing cycle, while global growth and employment conditions offered mixed signals. As a result, global equity market breadth and leadership continued to narrow as the uncertain macro environment, contrasted by strong near-term fundamentals for the so-called Magnificent Seven and associated AI proxies and beneficiaries worldwide, ensured that such AI proxies drove the lion's share of second quarter returns. Beneath this surface level, we note that in contrast to the first quarter, the momentum of U.S. and global growth and employment conditions seemed to peak early in the quarter and moderate, with consumption clearly weakening late in the quarter. This allowed bond yields, and more importantly real yields, to moderate through the quarter, ending notably below the April highs and well below the recent peak levels of October 2023, which preceded the Fed's subsequent pivot. Our current bias is that recent moderating trends will trigger a Fed easing cycle sooner rather than later, a development which would likely warrant a mean- reverting inflection point for many market underperformers including developing Asia equities. Interestingly, we point out that despite the year-to-date rise in bond yields and the U.S. dollar, the MSCI AC Asia ex Japan Index outperformed the S&P 500 Index (SP500, SPX) during the second quarter, while strongly outperforming the Dow Jones Industrial Average (DJIA), the equal- weighted S&P 500 Index, and the Russell 2000 Index (RTY). We find this performance particularly admirable and perhaps a foreshadowing in the face of widespread skepticism towards developing world equities.
As we referenced in our previous letter, a portion of this surprisingly solid showing can be attributed to the broadening recognition of AI-related equities in the Benchmark. Further, as AI enthusiasm has spread from the "GPU/data center arms race" to the notion of "edge AI," or AI on server/PC/ handset, many more individual companies can be seen as at least cyclical beneficiaries as edge AI would necessitate a significant and long-deferred replacement cycle for such edge devices. As the second quarter progressed, updates from Apple (AAPL), Taiwan Semiconductor (TSM), Dell (DELL), Lenovo (OTCPK:LNVGY) and others drove growing interest in the many companies in the hardware/handset ecosystem - a substantial portion of which reside in developing Asia jurisdictions, in addition to the well-recognized semiconductor and high-bandwidth memory leaders, and, in our view, this phenomenon helped drive solid relative performance. We remain confident that emerging markets (EM)/Asia equities currently offer an attractive long-term entry point, and as always, we remain confident that our diversified portfolio of well-positioned and well-managed companies can capitalize on their potential over the coming years regardless of the external environment.
| Baron New Asia Fund Retail Shares1,2 | Baron New Asia Fund Institutional Shares1,2 | MSCI AC Asia ex Japan Index1 | MSCI AC Asia ex Japan IMI Growth Index1 | MSCI AC Asia Index1 | |
|---|---|---|---|---|---|
| Three Months3 | 10.71% | 10.77% | 7.20% | 7.58% | 2.72% |
| Six Months3 | 17.80% | 17.81% | 9.75% | 10.54% | 8.48% |
| One Year | 18.40% | 18.72% | 12.89% | 12.19% | 13.05% |
| Since Inception (July 30, 2021) | (2.82)% | (2.60)% | (3.38)% | (5.74)% | (1.16)% |
| Performance listed in the above table is net of annual operating expenses. The gross annual expense ratio for the Retail Shares and Institutional Shares as of December 31, 2023 was 7.37% and 6.93%, respectively, but the net annual expense ratio was 1.45% and 1.20% (net of the Adviser's fee waivers and expense reimbursements), respectively. 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 Adviser waives and/or reimburses certain Fund expenses pursuant to a contract expiring on August 29, 2034, unless renewed for another 11-year term and 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. For performance information current to the most recent month end, visit BaronCapitalGroup.com or call 1-800-99-BARON. (1)The MSCI AC Asia ex Japan Index Net ('USD') measures the performance of large and mid cap equity securities representation across 2 of 3 Developed Markets countries (excluding Japan) and 8 Emerging Markets countries in Asia. The MSCI AC Asia ex Japan IMI Growth Index Net ('USD') measures the performance of large, mid, and small cap securities exhibiting overall growth style characteristics across 2 of 3 Developed Markets countries (excluding Japan) and 8 Emerging Markets countries in Asia. The MSCI AC Asia Index Net ('USD') captures large and mid cap representation across Developed Markets countries and Emerging Markets countries in Asia. MSCI is the source and owner of the trademarks, service marks and copyrights related to the MSCI Indexes. The indexes and the Fund include reinvestment of dividends, net of foreign withholding taxes, which positively impact the performance results. The indexes are unmanaged. Index performance is not Fund performance. Investors cannot invest directly in an index.(2)The performance data does not reflect the deduction of taxes that a shareholder would pay on Fund distributions or redemption of Fund shares.(3)Not annualized. |
For the second quarter of 2024, we comfortably outperformed our Benchmark, as well as our all-cap growth Proxy Benchmark. From a sector or theme perspective, strong stock selection in the Consumer Discretionary sector, owing to select Indian investments in our Asia consumer theme (Trent Limited and Mahindra & Mahindra Limited) and global security/ supply chain diversification theme (Dixon Technologies Ltd.), contributed the most to relative performance this quarter. In addition, our overweight positioning and solid stock selection in the Communication Services sector, primarily attributable to our digitization-related investments in India (Bharti Airtel Limited and Indus Towers Limited), also bolstered relative results. Lastly, favorable stock selection effect in the Industrials sector, largely driven by our power/infrastructure related investments in India, as part of the global security/supply chain diversification theme (Kirloskar Oil Engines Limited and GMR Power and Urban Infra Limited), also stood out as a contributor. Partially offsetting the above was adverse stock selection in the Financials sector, primarily attributable to our exposure to South East Asian bank (PT Bank Rakyat Indonesia (Persero) Tbk) along with a few holdings in our India wealth management/consumer finance theme (Jio Financial Services Limited, Bajaj Finance Limited, SBI Life Insurance Company Limited, and Nuvama Wealth Management Limited). Adverse allocation effect together with weak stock selection in the Information Technology sector also modestly detracted from relative results.
From a country perspective, strong stock selection combined with our large overweight positioning in India drove the vast majority of outperformance this quarter. In addition, positive allocation effect together with solid stock selection in Korea also bolstered relative results. Lastly, our lack of exposure to Thailand and the Philippines also contributed. Mildly offsetting the above was our active exposure to Japan through investments in our digitization theme (Tokyo Electron Limited and Hoya Corporation) and automation/ robotics/AI theme (Keyence Corporation), along with adverse stock selection effect in China.
We are delighted with our year-to-date solid performance in India and remain excited about our investments in the country. The recent re-election of Prime Minister Modi for a historic third term bodes well for policy continuity and further implementation of productivity enhancing economic reforms. In our view, India has become a standout investment destination within Asia/EM and has entered a multi-year virtuous investment cycle that is positioning the country as the fastest growing large economy in the world this decade. We remain busy identifying and populating the portfolio with new investments that, in our view, should meaningfully benefit from rising infrastructure spend and supply-chain diversification opportunities.
Top Contributors to Performance
| Percent Impact | |
|---|---|
| Taiwan Semiconductor Manufacturing Company Limited (TSM) | 1.70% |
| Bharti Airtel Limited | 1.64 |
| Trent Limited | 1.55 |
| Tencent Holdings Limited (OTCPK:TCEHY) | 1.03 |
| Indus Towers Limited | 0.95 |
Semiconductor giant Taiwan Semiconductor Manufacturing Company Limited (TSMC)contributed in the second quarter due to expectations for a continued strong cyclical recovery in semiconductors and significant incremental demand for AI chips. We retain conviction that TSMC's technological leadership, pricing power, and exposure to secular growth markets, including high-performance computing, automotive, 5G, and IoT, will allow the company to sustain strong double-digit earnings growth over the next several years.
Bharti Airtel Limited contributed during the quarter, driven by steady earnings performance and visibility into strong future free cash flow generation as the company is likely at its peak capex intensity. As India's dominant mobile operator, the company is benefiting from ongoing industry consolidation. In particular, Vodafone Idea, a key player and competitor, is on the verge of bankruptcy amid severe pricing pressure and an unsustainable balance sheet. We retain conviction as Bharti transforms into a digital services company and benefits from rising mobile tariffs.
Shares of Trent Limited contributed to performance during the quarter. Trent is a leading retailer in India that sells private label apparel direct-to-consumer through its proprietary retail network. Shares were up this quarter on better-than-expected quarterly sales performance as well as continued footprint expansion of its Zudio value fashion franchise. We remain investors, as we believe the company will generate over 25% revenue growth in the near-to-medium term, driven by same-store-sales growth and outlet expansion. In addition, we believe operating leverage and a growing franchisee mix will lead to better profitability and return on capital, driving more than 30% EBITDA CAGR over the next three to five years.
Top Detractors from Performance
| Percent Impact | ||
|---|---|---|
| PT Bank Rakyat Indonesia (Persero) Tbk (OTCPK:BKRKY) | -0.51% | |
| Tokyo Electron Limited (OTCPK:TOELY) | -0.23 | |
| Titan Company Limited | -0.20 | |
| Yum China Holdings Inc. (YUMC) | -0.16 | |
| Samsung Electronics Co., Ltd. (OTCPK:SSNLF) | -0.14 |
PT Bank Rakyat Indonesia (Persero) Tbk is a lender serving Indonesia's micro, consumer, and small-to-medium-enterprise segments. Shares declined after the company reported higher-than-expected credit costs driven by the impact of rising inflation on clients' repayment capacity. Management decided to tighten underwriting standards to prioritize asset quality over loan growth. While this decision is having a negative impact on near-term earnings expectations, it does not alter our thesis of increasing credit penetration within the segments Bank Rakyat serves. We expect Bank Rakyat to deliver above-industry returns in a growing segment for credit in Indonesia.
Semiconductor production equipment manufacturer Tokyo Electron Limited detracted in the second quarter, driven by investor concerns about a slower-than-expected near-term revenue growth recovery. We remain optimistic about Tokyo Electron's long-term prospects. We expect semiconductor production equipment spend will grow robustly for years to come, as chipmakers expand capacity to meet rising demand, with AI as a key long-term catalyst. We believe the company will remain a critical enabler of major chipmakers' technological advancements.
Shares of Titan Company Limited, India's largest organized jewelry retailer, detracted from performance due to a weak margin outlook amid rising competitive pressure. We retain conviction in Titan, as we believe the company will benefit from the continued formalization of the jewelry retail market in India and will gain market share from unorganized players. In addition, we think Titan is uniquely positioned with best-in-class brand equity and access to financing enabled by its Tata Group parentage. We continue to believe Titan can sustain 15% to 20% earnings growth in the next three to five years.
Portfolio Structure
| Percent of Net Assets | |
|---|---|
| Bharti Airtel Limited | 7.3% |
| Taiwan Semiconductor Manufacturing Company Limited | 7.3 |
| Trent Limited | 6.2 |
| Indus Towers Limited | 5.3 |
| Reliance Industries Limited | 4.0 |
| Tencent Holdings Limited | 3.8 |
| Samsung Electronics Co., Ltd. | 3.4 |
| Zomato Limited | 3.2 |
| Jio Financial Services Limited | 3.0 |
| Kaynes Technology India Limited | 2.6 |
| Percent of Net Assets | |
|---|---|
| India | 62.6% |
| China | 13.4 |
| Taiwan | 9.4 |
| Korea | 8.0 |
| Japan | 2.1 |
| Indonesia | 1.0 |
Exposure by Market Cap: The Fund may invest in companies of any market capitalization, and we have generally been broadly diversified across large-, mid-, and small-cap companies, as we believe developing companies of all sizes in Asia can exhibit attractive growth potential. At the end of the second quarter of 2024, the Fund's median market cap was $14.7 billion, and we were invested 55.0% in giant-cap companies, 29.6% in large-cap companies, 8.4% in mid-cap companies, and 3.4% in small-cap companies, as defined by Morningstar, with the remainder in cash.
Recent Activity
During the second quarter, we added several new investments to our existing themes, while also increasing exposure to various positions that we established in earlier periods. We continue our endeavor to add to our highest conviction ideas.
We were most active in adding to our global security/supply chain diversification theme by initiating positions in GMR Power and Urban Infra Limited (GPUIL), Bharat Electronics Limited (BEL), and Precision Wires India Limited. GPUIL, based in India, specializes in power generation, railway and road construction, and urban development. The company operates power generation plants across India with a total installed capacity of 3 GW, utilizing a mix of coal, gas, hydro, and renewable energy sources. We believe GPUIL is well positioned to participate in India's power upcycle, as the government is committed to expanding overall power generation capacity by approximately 10% annually from 2024 to 2030, while renewable energy capacity is expected to grow at a 15% to 20% compounded rate. The company has also won a smart electricity meter contract in the state of Uttar Pradesh through competitive bidding, which involves installing 7.6 million smart meters over a period of 10 years. In addition to participating in growth in the power sector, we also expect the company to strengthen its balance sheet by monetizing stranded power and land assets, recovering receivables from state-owned power distribution companies, and continually reducing corporate debt. We expect GPUIL to deliver low double-digit EBITDA growth over the next three to five years, with further upside from improving balance sheet health.
BEL is a leading defense electronics manufacturer in India with approximately 60% market share. It is also the second largest Defense Public Sector Unit under India's Ministry of Defense. The company develops a wide range of equipment and systems in fields such as defense communication, radars, tank electronics, electro optics, arms and ammunition, and unmanned systems. Most of its revenue comes from the Indian government and government-related entities, with customers including India's Army, Navy, Air Force, and state governments. As India implements policy initiatives to encourage indigenous design, development, and manufacturing of defense equipment, we believe BEL will be a key beneficiary of such reforms. Other growth drivers for the company include India's rising defense budget and growing export and non-defense businesses. We expect BEL to deliver mid-teens compounded earnings growth in the next three to five years.
Precision Wires is the largest manufacturer of enameled copper winding wire in India with over 50% market share. Winding wire is a key component in power transformers, generators, automotive motors, and industrial motors. The company sells its products to OEMs across various industries, including automotive, aerospace and defense, power, electronics, home appliances, and infrastructure. Its competitive advantages include long-term relationships with OEM customers, scale of operations, and R&D capabilities. We believe Precision Wires is well positioned to benefit from structural growth opportunities in the power sector as well as the rising penetration of EVs and hybrid vehicles in India. As per company management, winding wire content in EVs/hybrids is 7x/2.5x, respectively, as compared to a traditional ICE vehicle. This creates significant opportunities for Precision Wires over the next 5 to 10 years as EV penetration in India is currently under 2%. We expect the company to generate mid-teens earnings growth over the next 3 to 5 years, with further long-term revenue upside from new business wins in EVs/hybrids.
During the quarter, we also increased exposure to our digitization theme by building positions in Tips Industries Limited and ASPEED Technology Inc. Tips is a leading music production company in India with approximately 10% market share. The company owns a repertoire of over 32,000 songs across various genres and languages. Tips monetizes its content library by collecting a share of advertising and subscription fees from digital streaming platforms, including YouTube, Spotify, and JioSaavn. The company is a key beneficiary of India's fast growing digital ecosystem, with over 700 million Indians now having access to a smartphone, consuming various digital services online. Tips has maintained an EBITDA margin above 60% and is committed to returning excess capital to shareholders via dividends and share repurchases. In our view, Tips will generate about 25% to 30% compounded revenue and earnings growth over the next three to five years. Over the longer term, we expect further earnings upside as digital platforms begin to more effectively monetize their subscriber base through monthly streaming plans, which should significantly improve the payout potential for Tips.
ASPEED is a Taiwanese semiconductor design company and the dominant global supplier of Baseboard Management Controllers ('BMC'), a mission- critical chip used to remotely monitor and manage the key components in a server, such as the processor, memory, and power supply. We expect the company to maintain 70%-plus market share in BMCs, given its superior technology, scale advantages, and strong relationships with all the major Taiwanese server manufacturers and U.S. hyperscale customers. AI servers have significantly higher BMC content than traditional servers, and we expect surging demand for AI servers to drive a dramatic acceleration in demand for BMCs. ASPEED's growth will be further boosted by the transition to its new-generation BMC, which is priced at a significant premium, reflecting major advancements in performance and functionality. We are also optimistic that the company will leverage its customer relationships and strong design capabilities to successfully expand into new products, including a Platform Firmware Resilience chip which prevents malware attacks. In our view, ASPEED is uniquely positioned as a long-term AI beneficiary, and we expect it to maintain industry-leading top-line growth and profit margins over the next five years.
We also added to several of our existing positions during the quarter, including Indus Towers Limited, Trent Limited, Power Grid Corporation of India Limited, Reliance Industries Limited, Kaynes Technology India Limited, Thermax Limited, and Aster DM Healthcare Limited.
During the quarter, we also exited our positions in Techtronic Industries Co. Ltd. (OTCQX:TTNDY), Aarti Pharmalabs Limited, Budweiser Brewing Company APAC Limited (OTCPK:BDWBF), China Mengniu Dairy Co. Ltd. (OTCPK:CIADF), AIA Group Limited (OTCPK:AAGIY), Hong Kong Exchanges and Clearing Limited (OTCPK:HKXCF), Venustech Group Inc., Lufax Holding Ltd (LU), and Divi's Laboratories Limited, as we continue our endeavor to allocate capital to our highest convictions ideas.
Outlook
In many ways, we see the evolution of market behavior in the second quarter 2024 as an extension of the first quarter: inflation readings failed to slow sufficiently to clearly warrant the initiation of a Fed easing cycle, while global growth and employment conditions offered mixed signals, and global equity market breadth and leadership continued to narrow into nearly the exclusive confines of the Magnificent Seven and associated AI proxies and beneficiaries worldwide. Under the hood, we observe that the details are more nuanced. First, in contrast to Q1, the momentum of U.S. and global growth and employment conditions seemed to peak early in the quarter and moderate, with consumption clearly weakening into late Spring/early Summer. This allowed bond yields, and more importantly real yields, to moderate through the quarter, ending notably below the April highs and well below the recent peak levels of October 2023, which preceded the Fed's pivot. We will be carefully following ongoing employment and consumption indicators, and the related implications for growth and inflation expectations, as our current bias is that recent moderating trends will trigger a Fed easing cycle sooner rather than later. Such a development would likely warrant a mean-reverting inflection point for many market underperformers, including EM equities - much as we experienced during the final quarter of 2023; though, if viewed as a more lasting economic inflection point, we would expect any associated leadership change to be more durable. Interestingly, we point out that despite the year-to-date rise in bond yields and the U.S. dollar, the MSCI AC Asia ex Japan Index outperformed the S&P 500 Index during the second quarter, while strongly outperforming the Dow Jones Industrial Average, the equal-weighted S&P 500 Index, and the Russell 2000 Index, and year-to-date, stands ahead of all of the above, excluding the S&P 500 Index, which is skewed by the dominant performance of NVIDIA and other members of the Magnificent Seven. We find this performance particularly admirable in the face of widespread skepticism towards developing world equities.
A portion of this surprisingly solid showing can be attributed to the considerable weighting and number of AI-related equities in the Benchmark, which we highlighted in our previous letter. More recently, as AI enthusiasm has broadened and spread from the "GPU/data center arms race" to the notion of "edge AI," or AI on server/PC/handset, many more individual companies can be seen as at least cyclical beneficiaries as edge AI would necessitate a significant and long-deferred replacement cycle for such edge devices. As the second quarter progressed, updates from Apple, Taiwan Semiconductor, Dell, Lenovo and others drove growing interest in the many companies in the hardware/handset ecosystem, a substantial portion of which reside in developing Asia jurisdictions, in addition to the well-recognized semiconductor and high-bandwidth memory leaders, and in our view this phenomenon helped drive solid relative performance. This nuance we believe has potential implications going forward for the traditional AI/ Magnificent Seven plays; while the long-term opportunity appears compelling (and consensus), given current valuations, any pause in the momentum of the GPU arms race in the transition from training to inference, or from data center capex to the rollout of software-driven AI applications at scale, would likely spark a major inflection in market leadership. In other words, it is possible or even likely that it will take time to utilize the vast expansion in AI processing capacity that is building up at the hyperscale/data center level in the pursuit of productivity promise of AI, notwithstanding a potentially imminent global handset/server/PC upgrade cycle. In such a scenario, we would expect to see a notable change in Magnificent Seven/U.S. equity dominance with improved relative performance for non-U.S. and EM/Asia equities.
Thank you for investing in the Baron New Asia Fund.
Sincerely,
Michael Kass, Portfolio Manager
Anuj Aggarwal, Portfolio Manager
| Investors should consider the investment objectives, risks, and charges and expenses of the investment carefully before investing. The prospectus and summary prospectus contain this and other information about the Funds. You may obtain them from the Funds' distributor, Baron Capital, Inc., by calling 1-800-99-BARON or visiting BaronCapitalGroup.com. Please read them carefully before investing. Risks: Non-U.S. investments may involve additional risks to those inherent in U.S. investments, including exchange-rate fluctuations, political or economic instability, the imposition of exchange controls, expropriation, limited disclosure and illiquid markets. In addition, investments in developing countries may have increased risks due to a greater possibility of settlement delays; currency and capital controls; interest rate sensitivity; corruption and crime; exchange rate volatility; and inflation or deflation. Government actions, bureaucratic obstacles and inconsistent economic reform within the Indian government have had a significant effect on the Indian economy and could adversely affect market conditions, economic growth and the profitability of private enterprises in India. The Fund may not achieve its objectives. Portfolio holdings are subject to change. Current and future portfolio holdings are subject to risk. The discussions of the companies herein are not intended as advice to any person regarding the advisability of investing in any particular security. The views expressed in this report reflect those of the respective portfolio manager only through the end of the period stated in this report. The portfolio manager's views are not intended as recommendations or investment advice to any person reading this report and are subject to change at any time based on market and other conditions and Baron has no obligation to update them. This report does not constitute an offer to sell or a solicitation of any offer to buy securities of Baron New Asia Fund by anyone in any jurisdiction where it would be unlawful under the laws of that jurisdiction to make such offer or solicitation. BAMCO, Inc. is an investment adviser registered with the U.S. Securities and Exchange Commission (SEC). Baron Capital, Inc. is a broker-dealer registered with the SEC and member of the Financial Industry Regulatory Authority, Inc. (FINRA). |
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