Market Observations & Portfolio Commentary

SMID Cap – 3Q2025 vs. Russell 2500

 

Market Update

U.S. equities continued their advance in Q3, fueled by a Fed rate cut, solid corporate earnings and enthusiasm around AI. Economic data released throughout the third quarter was mixed, but the economy retained most of its momentum from the second quarter. Expectations for additional interest rate cuts by the Federal Reserve also drove more optimism in the market. Volatile, high beta stocks extended their sharp rebound off April 8th lows, notching the strongest high beta rally since the bounce off the Global Financial Crisis trough in 2009. For the quarter, the broader market, as measured by the Russell 3000 Index, increased 8.2%, and the S&P 500 and small-cap Russell 2000 both hit all-time record highs. Stylistically, Growth outperformed Value, and Small Cap stocks led Large Caps. Turning to market factors, Volatility and Yield factors posted the strongest returns. Value and Growth factors were mixed. Quality factors, which our portfolios tilt towards, were mostly headwinds.

 

Key Performance Takeaways

• The London Company SMID Cap portfolio increased 1.1% gross (0.8% net) during the quarter vs. a 9.0% increase in the Russell 2500 Index. Both stock selection & sector exposure were headwinds to relative performance.

• The SMID portfolio trailed the benchmark and came up short of our 85-90% upside capture expectations. There have been pockets of idiosyncratic weakness across the SMID portfolio, but ultimately our high Quality, low Volatility positioning has been out of favor since the April 8th market low. Quality factors, a tailwind during the drawdown earlier in the year, turned into a headwind as Volatility surged. The high beta rally has been driven by low quality, negative earning companies which have rallied on hopes of further Fed rate cuts. The recent weakness by Quality factors is consistent with historical patterns. In the aftermath of recessions or policy shifts, markets often reward speed and speculation over stability. We remain confident in our holdings: durable advantages, strong balance sheets, and steady free cash flow underpin long-term value.

 

Top 3 Contributors to Relative Performance 

• Armstrong World Industries, Inc. (AWI) – AWI shares outperformed in the quarter due to beating expectations, driven by favorable positioning in key verticals and strong operating leverage. We continue to like AWI for its consistent execution, strong financials, leading market share and persistent moats through its exclusivity agreements and warranties.

• Somnigroup International Inc. (SGI) – SGI was a top performer as it continues to gain incremental share in the bedding market, despite the weakness in the endmarket. The integration of Mattress Firm is progressing ahead of schedule, causing an improvement in the outlook. We believe the business combination has the potential to unlock meaningful value. Our investment thesis is supported by robust free cash flow generation, strong brand equity, and solid management execution.

• NewMarket Corporation (NEU) – NEU was a strong performer in the quarter, mainly due to three factors. First, low oil prices cut input costs faster than revenue, driving improved profitability. Second, a timely defense acquisition allowed NEU to ramp up production amid global conflicts. Finally, the market is positively viewing the company’s use of cash flow to repay debt.

 

Top 3 Detractors from Relative Performance 

• Waters Corporation (WAT) – WAT underperformed on the announcement that it will acquire Becton Dickinson’s Biosciences and Diagnostics divisions. While we take a skeptical view toward transformational M&A, we do see the strategic logic of the deal, and we have confidence in management’s ability to execute on commercial improvements and cost synergies. We continue to have a favorable view of WAT’s core business and the management team.

• Casella Waste Systems, Inc. (CWST) – CWST was an underperformer after reporting continued weakness in construction and demolition volumes, plus temporarily slower synergies from the recent larger acquisition. CWST continues to get pricing above inflation. We continue to be attracted to the scarce assets of the landfills, pricing power, and the consolidated nature of the industry at a local level.

• Jack Henry & Associates, Inc. (JKHY) – JKHY was an underperformer this quarter after reporting a more conservative outlook and temporary margin pressures due to new client onboarding. Overall, results were strong with JKHY winning new business by leveraging its cloud platform and best-in-class technology. We remain attracted to the asset light business model, sticky contracts with long duration, and a clean balance sheet.

 

Sector Influence

We are bottom-up stock pickers, but sector exposures influenced relative performance as follows:

• What Helped: Overweight in Information Technology (a better performing sector) & overweight Materials (a better performing sector)

• What Hurt: Overweight Consumer Staples (a weaker performing sector) & underweight Health Care (a better performing sector)

 

Trades During the Quarter

• Initiated: ACI Worldwide, Inc. (ACIW) – ACIW’s core payments software enables banks, processors, networks, fintechs, and retailers to handle payments regardless of the channel. ACIW doesn’t move or process money, they sell the software to facilitate money movement. ACIW’s software is mission critical to financial institutions and competition is limited. Margins are attractive and capital spending needs are light. At 11x EV/EBITDA, we believe the stock is attractive and trades at a discount to intrinsic value. We have owned ACIW for years in the Small Cap portfolio. Fundamentals remain attractive and the market cap is now roughly $5B.

• Exited: Reynolds Consumer Products Inc (REYN) – We sold the remaining position in REYN as the company continues to face stiff competition and may face greater headwinds from tariffs. Sale reflects diminished conviction following several years of inconsistent results, challenges from private label products and limited pricing power.

• Increased: Deckers Outdoor Corporation (DECK) – We added to DECK following recent weakness in the shares. While there have been concerns about the HOKA brand, recent results point to the strength and sustainability of both the UGG and HOKA brands. We believe DECK can continue to generate strong revenue growth with higher margins. The balance sheet is strong with $1.7B in net cash (10% of the company’s market cap). With shares now at a much more attractive valuation, we elected to increase our position.

• Reduced: Armstrong World Industries, Inc. (AWI) – We trimmed the existing position in AWI following recent strength. We maintain an optimistic outlook for the ceiling tile business and AWI’s leading position in an oligopoly.

• Exited: Broadridge Financial Solutions, Inc. (BR) – We sold the remaining position in BR following recent strength in the shares. The market cap of BR now exceeds $30B, which is too large for the SMID portfolio.

 

Looking Ahead

Despite the twists and turns of uncertainty, the U.S. economy has displayed impressive resilience this year. Housing, the impact of recent tariffs, and the labor market continue to be areas of concern. That said, the past six months were filled with powerful catalysts—including tax reform, Fed easing, lower long-term rates, tariff clarity, and record capital spending—which gave new life to risk-taking and economic optimism. Still, sticky inflationary pressures combined with a weakening labor market have complicated the Fed’s dual mandate.

Turning to equities, the markets remain concentrated and expensive, potentially limiting room for multiple expansion and raising the prospect of muted returns with higher volatility. Expectations are being partly driven by productivity gains, broadening of earnings growth, and less restricted monetary policy. Yet, the momentum and sustainability of AI and the capex behind it have been questioned more frequently. High beta rallies, like the past 6 months, are rare, short-lived and historically mean-reverting. In the aftermath of recessions or policy shifts, markets often reward speed and speculation over stability. Quality factors usually lag in these circumstances, then regain leadership when fundamentals reassert themselves. With valuations stretched & speculation abundant, we believe focusing on resilient, attractively valued businesses remains the best path to compounding wealth across full cycles. Our Quality-at-a-Reasonable-Price discipline is designed to protect capital during frothy periods and deliver steadier results when the cycle turns.

 

Annualized Returns 

As of 9/30/2025

Inception date: 3/31/2009. Performance is preliminary. Subject to change. Past performance should not be taken as a guarantee of future results. Net of fee returns are calculated net of a model management fee of 1.00%. Please see the disclosure notes found on the bottom of the page.