Equities

Our Concentrated Equity Alpha (CEA) strategy is comprised of high quality, competitively advantaged businesses. You are owners of companies that are the leaders in their respective fields and their growth is underpinned by secular trends. We expect to create substantial long-term value for our clients by identifying and buying these businesses at appealing valuations, holding onto them as long-term assets, and only selling when valuations become extreme, or the thesis has run its course.

Markets can be inconsistent, and investing in a consistent strategy can lead to variability over periods of time. After two straight years of outperforming the markets, our CEA strategy did not keep up with the broader market in 2024. We do not take this lightly – our goal is to outperform the market over time. Our research team, advisors, and partners are heavily invested in the same strategies alongside our clients – we eat our own cooking.

Looking at the businesses within the strategy, I am encouraged. Asset quality remains exceptional. Balance sheet integrity (low debt levels) and strong cash generation remain core tenets of our holdings.

Intuitive Surgical (ISRG) is the leader in the emerging field of robotic surgery. Palo Alto Networks (PANW) is a leader in securing enterprises from cyber threats. We are exposed to the explosive potential of Artificial Intelligence in several ways: ServiceNow (NOW) provides enterprises productivity use cases powered by AI, Cadence (CDNS) provides the software that these new AI chips are designed and tested on, SPXC Technologies (SPXC) supplies air conditioning and air handling units for data centers (including AI data centers), and Hubbell (HUBB) is a leader in providing components to help power the grid. Although returns may not be linear, I am confident that these investments will continue to bear fruit in 2025 and beyond.

Our Large Cap Yield strategy had a solid year. Importantly, it has shown over time to do exactly what it was constructed for: a lower volatility way to gain exposure to equities, utilizing blue chip companies such as Apple (AAPL), Coca-Cola (KO), McDonalds (MCD), and J.P. Morgan (JPM). The dividend yield of this strategy is currently 2.2%.

As a reminder, we firmly believe the US capital markets are the best markets to compound wealth. Between continual value creation, an economy that fosters incredible innovations, and the integrity of the capital markets, we intentionally focus our investing within the US markets. Over the long-term, it has been a great decision to stay away from international markets, and 2024 was no exception.

Fixed Income

Our Corporate Bond strategy is well positioned and we are pleased with the portfolio of bonds that you own. We remain fully invested with a short duration of 2.9 years. Focusing on shorter-term bonds is beneficial in that it limits volatility in your bond portfolio in the midst of significant swings in interest rates. Importantly, we’ve shifted even further towards investment grade bonds – increasing the credit profile of your portfolios.

It remains challenging to find municipal bonds that meet our quality and yield threshold for our Municipal Bond strategy. We’ll continue to monitor the market for opportunities to invest in high quality New York municipal bonds with yields over 4%.

Other Offerings

We remain positive on the private REIT product that we distribute. We have seen deal flow pick up over the last few quarters of 2024. New acquisitions are closing at higher cap rates (better valuations) which help to improve the overall cash flows back to the REIT.

After several years of solid returns, the investment opportunity window is currently shut on new capital entering the Preferred Equity strategy. The favorable opportunities we saw over the past couple of years have diminished over time as prices have continued to climb. This is a tactical and market-dependent offering, much like our Municipal Bond strategy. When we think the market is providing an opportunistic window, we strike.

Our Research Team remains fully immersed in these dynamic markets. With decades of combined experience, our exclusive focus is on investment management. This allows us to respond quickly, think deeply, and act decisively. We have made targeted portfolio adjustments and view this period not with alarm, but with intention.
Given the elevated market valuations earlier this year, we entered 2025 with an above-average cash position. While we have already begun putting some of that cash to work, we remain well positioned to take advantage of continued market dislocation.

In areas where we believe the forward outlook has structurally shifted, we have acted. For example, we decreased our exposure to research-focused life sciences companies earlier this year when we saw a meaningful policy shift at the US Department of Health and Human Services.

Times of dislocation also offer the best opportunities to buy great businesses at attractive prices. We have rotated into high-quality names like J.P. Morgan in our Large Cap Yield Strategy, as well as Arista Networks and Trane Technologies in our Concentrated Equity Alpha Strategy, where we see long-term value amid recent stock pullbacks.

J.P. Morgan is the largest and highest quality bank in the market. Arista is a leading provider of data center networking and switching equipment. The company has been taking share in its core markets for years and is seeing continued growth due to the acceleration in AI-related data center spend. Trane is a leading provider of commercial HVAC equipment and services. The HVAC industry continues to benefit from long-term structural demand, driven by rising global temperatures, improved indoor air quality standards, and a growing push for energy efficiency.

We continue to emphasize quality above all else. The companies that we favor have strong balance sheets, resilient business models, and solid organic growth potential. In our Concentrated Equity Alpha Strategy, every company is at or below 2x leverage, with many holding net cash positions. Leverage, defined as net debt divided by EBITDA (a measure of operating profitability), reflects a company’s reliance on debt. The higher the leverage, the more vulnerable a business may be during periods of economic stress. We intentionally focus on companies with low leverage—typically 3x or below—and believe our portfolios are well positioned in the current environment.

Periods of uncertainty are when the best companies can press their advantage, take market share, and reinvest when others are forced to pull back. They seize the day and come out stronger.
Broadly, valuations have become more attractive. The S&P 500 is trading at 18x forward Price/Earnings (P/E)—down from 22x P/E at the end of last year and is now below the 10-year average. While valuations could pull back further, excessive valuations have been wrung out of the market.

As we look ahead to 2025, it is clear we remain in a dynamic and fast-paced world. As it pertains to equity markets, I believe we are headed into a period of heightened volatility. The equity markets are expensive, inflation concerns remain, and a new administration brings with it uncertainty. In the short-term, we are cautious. We do not chase overvalued assets and will be patient in redeploying available cash. We welcome volatility as it offers opportunities to buy great businesses at discounted valuations.

As we think about 2025, our main areas of focus center on:

Inflation & Interest Rates

Inflation remains a concern. While we have come a long way from the peak 9% inflation seen in June of 2022, inflation measures look to be holding in the 2.5-3% range (above the Fed’s target of +2% for long-term price stability) and we have seen an acceleration in pricing data over the last few months. When you add in the potential for substantial tariffs with the new administration, there are legitimate worries about inflation reaccelerating.

Any meaningful reacceleration would force the Fed to pivot from the current rate cutting cycle toward raising rates. Longer-dated interest rates have already been rising over the past few months. This will hurt those that have been impacted by inflation the most and rely on borrowing. High mortgage rates relative to the generational lows of the last few years and elevated housing prices are making buying a home unreachable for many. It also brings to the forefront the looming Federal debt crisis as interest costs are soaring.

Stock Valuations

The second area of concern is the market itself, which remains historically expensive at 21.6 times earnings, compared to the 20-year average of 16 times. Valuations at these levels have only been observed twice before: in 2021 during the post-pandemic market bubble and during the peak of the tech bubble in the late 1990s. Both instances were followed by periods of heightened volatility and significant market adjustments (and also created incredible buying opportunities).

Adding to this challenge is the unprecedented concentration within the market. At year-end, the top 10 holdings accounted for 37.6% of the S&P 500—a level we have not seen before. This means investors seeking broad diversification by “buying the market” may be exposed to a far narrower slice of the economy than they realize.

Further, sentiment surrounding stock market returns in 2025 is quite optimistic. Whether it is Wall Street strategist market predictions or results from the most recent Conference Board survey, it appears that everyone is bullish. Sandhill’s founder once told me that things are never as good as they seem and never as bad as they seem. With such a broadly one-sided outlook, caution is warranted.

The Economy

The bright spot continues to be our resilient economy. US GDP is estimated to have grown 2.7% in 2024. Strong consumer spending continues to propel the economy forward due to the wealth effect of a stock market near all-time highs and elevated housing prices. If the equity and real estate markets hold up, I expect the economy to see continued growth. Corporate earnings have also been strong, and I would expect to see double digit growth in the coming year.

Lastly, Sandhill continues to grow and expand. Tim Myers joined Sandhill as an equity analyst in December, bringing our total employee count to twenty-eight. Tim is relocating back to his native Buffalo, NY after an 8-year career at a $20B asset manager based in Columbus, OH. We look forward to adding his experience and knowledge to the research team.

I wish you all a good start to the new year.

Sincerely,

Rick Ryskalczyk, CFA
Co-Managing Partner, Portfolio Manager

_{Disclosure: This commentary is for informational purposes only and does not constitute specific investment advice, recommendations, or offers to buy or sell any securities. Sandhill Investment Management (“Sandhill”) is a registered investment adviser with the Securities and Exchange Commission. Statements reflect Sandhill’s views as of the commentary date and are subject to change. Forward-looking statements, including economic and market projections, are speculative and not guarantees of future performance. Past performance is not indicative of future results, and all investments carry risks, including the potential loss of principal. References to specific securities, such as Intuitive Surgical, Palo Alto Networks, and Apple, are for illustrative purposes only and do not constitute recommendations or guarantees of future performance. Economic and market discussions are based on publicly available information believed to be reliable but are not guaranteed for accuracy or completeness. Investors should carefully evaluate their investment objectives, risk tolerance, and financial circumstances before making decisions and consult their advisors to ensure any investment strategy aligns with their individual needs and goals. For a complete list of firm composites and strategy presentations, please call 716-852-0279.}