Corporate America remains in strong financial condition. Corporate profits are growing, and earnings per share for the S&P 500 are expected to increase this year at the fastest pace in five years. While valuations remain extended relative to history, with the S&P 500 trading at roughly 20.5 times forward earnings, strong profit growth provides meaningful support for current market levels.

But under the surface, the market is far more interesting. We have already seen something extraordinary this year: 22 S&P 500 stocks have doubled in price, surpassing the prior record of 14 set in 1999. In an average year, only one or two companies in the index double in value. Semiconductor companies help explain this phenomenon, as their share prices and valuations have risen rapidly alongside explosive growth in AI-driven data center spending. Semiconductors now represent nearly 20% of the S&P 500, up from roughly 2% a decade ago.

At the same time, more than half of the stocks in the S&P 500 Information Technology sector are in their own bear market, down more than 20% from their highs.

While the index looks calm, dispersion beneath the surface is unusually wide, and for us, that is creating attractive entry points. While investors are fixated on AI-driven data center buildouts, and understandably so, other areas of the market have been overlooked, and we are finding value in these areas.

Corporate bonds are another area that looks increasingly attractive.

Yields have risen meaningfully over the last couple of months as inflation concerns and shifting expectations for Federal Reserve policy have pushed interest rates higher. With strong corporate earnings and healthy credit conditions, we are taking advantage of the ability to purchase quality corporate bonds at yields above 5%.

Staying shorter on the curve served us well while rates were rising over the last few years. Current yields allow us to lock in attractive income for longer, and we are modestly extending duration.

Other areas, including preferred securities, remain less compelling.

Much like the equity markets, the consumer looks strong, but we are tracking some unusual movements beneath the headlines.

Consumer spending powers the U.S. economy, accounting for more than two-thirds of GDP. Inflation-adjusted consumer spending was 2.1% higher in May than a year earlier. This is down from the very strong 3.5% pace we saw at the end of 2024, but still solid. Much of this continued strength can be attributed to the wealth effect: household net worth relative to income remains near record highs, driven by gains in financial assets and real estate.

These households continue to spend. In fact, the top 10% of earners now account for nearly half of all consumer spending, up from approximately 36% three decades ago. Beneath that strength, however, other data points to growing strain among the broader population.

Consumer sentiment has fallen across every major survey this year, and the University of Michigan’s gauge of current conditions recently touched 47.7, a level comparable with the depths of the pandemic. The personal savings rate has fallen to roughly 3%, near the lowest level in six decades, as much of the excess savings accumulated during Covid has been spent. Years of elevated inflation are taking a toll on household budgets, and the strain is becoming increasingly visible in the data.

We continue to track these leading economic indicators, and collectively they are leading us to take a more cautious view of the economy. A strong consumer remains one of the country’s greatest economic assets, but signs of weakness are beginning to emerge.

Recent Investments

Despite the elevated broad market valuation and the caution related to the consumer, quality businesses are being valued more cheaply than they have been in a long time, and we are putting capital to work. We remain selective, but individual businesses are presenting compelling value.

We recently initiated a position in Badger Meter (BMI), a pure-play water technology company. Badger holds a leading position in smart water meters and cellular advanced metering infrastructure technology. It sells into an oligopoly market with high switching costs and municipal utility customers that value reliability over price. The stock pulled back sharply after a temporary air pocket in revenue growth tied to project timing, rather than any change in long-term demand. We believe the multidecade replacement cycle for aging water infrastructure, combined with increasing technology adoption, gives Badger a durable growth runway, and the recent weakness provided an attractive entry point.

We also initiated a position in Forgent Power Solutions (FPS), a newly public manufacturer of electrical distribution equipment, including transformers, switchgear and prefabricated power systems for data centers and the broader electric grid. As AI infrastructure spending accelerates, power equipment has become a critical constraint on new data center capacity. Forgent’s ability to provide an integrated range of electrical products positions it well as customers seek faster and more coordinated solutions.

These investments illustrate two different ways attractive investments can develop. We tracked Badger Meter on our watchlist for years before business fundamentals and valuation aligned to create an attractive entry point. Forgent, by contrast, is a newly public company that remains less widely followed despite strong long-term growth prospects and a valuation that leaves room for upside.

We remain mindful of the broader economic backdrop, but we will continue to take advantage of short-term volatility that gives us chances to invest in durable businesses with attractive long-term prospects.

We are excited about where Sandhill is headed. Innovations in AI are transforming the corporate world, and we have begun deploying a new technology platform across the firm. Our goal is straightforward: to serve you better. We have no interest in standing still, and we believe this platform will create meaningful new ways for you to engage with your wealth in the years ahead.

Lastly, for those interested in learning more about our investment approach, I recently had the pleasure of joining Barron’s Streetwise podcast. You can listen to the episode by scanning the QR code here:

As always, we appreciate the trust you place in us as stewards of your capital. We hope that you enjoy a safe and relaxing summer.

Sincerely,

Rick Ryskalczyk, CFA

Managing Partner, Portfolio Manager

Disclosure:

This letter is provided for informational purposes only and does not constitute investment advice, a recommendation, or an offer to buy or sell any security or investment product. The views expressed are those of Sandhill Investment Management (“Sandhill”) as of the date of publication and are subject to change without notice. Forward-looking statements reflect current expectations and assumptions and are inherently uncertain; actual results may differ materially due to market, economic, geopolitical, and other factors. Sandhill Investment Management is a registered investment adviser with the U.S. Securities and Exchange Commission and is independently owned and operated. References to specific securities, including Badger Meter and Forgent Power Solutions, are for illustrative purposes only and reflect holdings in Sandhill’s Concentrated Equity Alpha strategy as of the date of this publication. The securities mentioned do not represent all securities purchased, sold, or held in Sandhill strategies, and it should not be assumed that an investment in the securities mentioned was or will be profitable. Holdings are subject to change without notice. A list of all recommendations made within the prior twelve months is available upon request. Any market or index references, including the S&P 500 Index, are provided for general informational and illustrative purposes only. Market data has been obtained from third-party sources believed to be reliable; however, Sandhill makes no guarantee as to its accuracy or completeness. Indices are unmanaged, do not reflect the deduction of fees or expenses, and are not available for direct investment. Past performance is not indicative of future results. The Barron’s Streetwise podcast is produced and published by Barron’s, which is not affiliated with Sandhill Investment Management. The views expressed in the podcast are those of the speaker as of the date of recording and are subject to change. References to specific securities in the podcast reflect holdings in Sandhill strategies as of the recording date, are provided for informational purposes only, do not represent all holdings, and do not constitute a recommendation to buy or sell any security. All investments involve risk, including the potential loss of principal. For additional information, full strategy disclosures, or a copy of Sandhill’s Form ADV, please contact Sandhill Investment Management at 716-852-0279 or visit www.sandhill-im.com.