Navigating Volatility in Equities and Fixed Income

Key Takeaways

Equity

»    The portfolio focused on downside mitigation, emphasizing quality companies with higher returns on capital, lower debt levels and balance sheet flexibility.
»    Companies characterized by higher margins and robust pricing power are better equipped to thrive in an environment marked by elevated tariffs.
»    As of June 30, 2025, the portfolio traded at a discount with a higher return on invested capital compared to the overall market.

Fixed Income

»    Fixed income assets performed well in the first half of 2025, driven by a treasury yield rally.
»    We have found the most opportunity in 7- to 10-year investment grade corporate bonds relative to Treasuries and the overall corporate bond market.
»    Given the uncertain environment, we are avoiding significant duration bets and are maintaining a neutral stance.

Equity Portfolio

How did you navigate the volatile markets in the first half of 2025?     

In the first quarter, we believe our focus on mitigating downside risk helped amidst a market sell-off triggered by tariff uncertainty and heightened volatility. In the second quarter, risk-on sentiment fueled a market rally led by high-beta and high-volatility factors, pushing indices to all-time highs, which was not supportive of our risk-minded, value-oriented strategy. 

Given the current environment of elevated market valuations, high market concentration, and an uncertain macroeconomic landscape, we believe our continued focus on minimizing potential downside will be critical. Our exposure to companies with higher returns on capital and balance sheet flexibility positions the Fund well to weather ongoing uncertainties and navigate future challenges effectively.

Where are you finding opportunities given the trade policy uncertainty? 

We haven’t made significant changes to the equity portfolio because of the tariff policy. As long-term business owners, we seek to own companies that can weather market disruptions. We believe this focus on quality companies positions us well in the current market. Many of our companies have solid moats and hard-to-disrupt competitive advantages that generate significant cash flow. These types of companies often have strong balance sheets and financial flexibility, which we believe will be important for navigating this uncertainty. We’ve seen several of our companies leverage their financial flexibility to mitigate supply chain risk. Many also have strong pricing power and can pass on added tariff costs to customers. We believe our portfolio is well-positioned to weather this period of uncertainty.

What holdings or sectors could be positively impacted by the trade policy changes? What holdings or sectors could be negatively impacted? 

Companies with a greater proportion of service revenue are generally less susceptible to the direct effects of trade policies, given the limited or absent tariffs on services. This includes U.S.-focused financial firms such as Progressive Corp., a property & casualty insurer, and The Charles Schwab Corp., a diversified financial services firm, whose income is primarily derived from premiums or fees.

Alternatively, should tariff policies lead to increased onshoring, we anticipate that portfolio holdings including Republic Services (a waste management provider) and Martin Marietta (a materials company) are favorably positioned to benefit. Their strong pricing power and competitive advantages enable them to capitalize on the anticipated rise in demand from this structural shift.

In contrast, certain semiconductor holdings within our portfolio confront heightened risks from trade policies due to their reliance on global manufacturing and complex supply chains. However, we believe these companies have substantially mitigated these exposures by diversifying their sourcing and strategically realigning their supply chains to navigate the evolving trade landscape.

Fundamentally, companies characterized by higher margins and robust pricing power are better equipped to thrive in an environment marked by elevated tariffs. These attributes—high returns on capital, strong margins, and consistent cash flow—provide a material advantage for companies within the equity portfolio during periods of economic contraction.

Would you please discuss significant changes to the portfolio holdings? 

In the first half of 2025, we trimmed our existing position in BlackRock, Inc. (BLK) to 4% of the portfolio. While we maintain strong conviction in the outlook for the company, we used the excess cash to initiate a position in Entegris, Inc. (ENTG), a semiconductor spending play well diversified across products and clients. The company sells chemicals (gases), filters, and containers for handling chemicals and chips with high switching costs across its diversified client base. We believe ENTG is well positioned for future growth and should benefit from greater spending. Growth in wafer starts and higher content per wafer are additional positives for ENTG. 

In the period, we sold the remaining position in The Home Depot, Inc. (HD), reflecting a relatively high valuation (18.6x trailing EBITDA) along with a mixed outlook for consumer spending and housing activity. While the aging housing base and stable housing values are a positive for home improvement spending, the equity portfolio also has exposure to Lowe’s Companies, Inc., its competitor.

We used this excess cash to add to Old Dominion Freight Line, Inc. (ODFL), a large carrier in the U.S. The company has been under pressure due to the prolonged freight environment but is positioned strongly for an eventual recovery. It is worth noting that the chief financial officer purchased over $400K in ODFL shares recently, which we believe signals management’s confidence in the company.

How does the portfolio’s return on invested capital, debt/EBITDA and valuation compare to the S&P 500 as of the end of 2Q?

As of the end of the second quarter of 2025, the portfolio was priced at a discount with higher return on invested capital. The portfolio had a pre-tax return on capital of 23.1% versus 15.7% for the S&P 500 as of June 30, 2025. In terms of valuation, the enterprise value to EBITDA of the Fund’s equity sleeve was 16.0x compared to the S&P 500’s 17.8x.

Would you please discuss your equity outlook for the rest of 2025? 

In the context of moderate GDP growth, equity market valuations based on near-term earnings appear elevated. Monetary policy remains restrictive due to a relatively solid economy and a healthy labor market. There is typically a lag of up to two years between monetary policy changes and the impact on the economy. Therefore, the impact of restrictive policy may continue to affect the economy in the months ahead.  We believe equity returns in the near term may be modest, with shareholder yield (dividends, share repurchases, debt reduction) comprising a significant percentage of the total return from equities. 

Longer term, we believe quality attributes and solid company fundamentals will lead to strong risk-adjusted returns. The companies in the equity portfolio are poised to generate sustainably high returns on capital, with low leverage ratios, at what we believe to be reasonable valuations relative to the broader market. 

Fixed Income Portfolio

Would you please discuss the performance of the fixed income asset classes in the first half of 2025? How were spreads/prices impacted?

Fixed income assets performed well in the first half of 2025, driven by a treasury yield rally. The 10-year yield fell by 34 basis points (bps), 5-year by 58 bps, and 2-year by 52 bps, boosting bond prices. This rally was localized to the intermediate portion of the yield curve as long-end yields (20-30 years) remained mostly unchanged. Investment grade spreads rose 3 bps overall for the period but spiked 39 bps higher in mid-April after the tariff announcements. Delays on reciprocal tariffs helped markets digest the developments and eventually spreads moved toward their beginning 2025 levels. Though we no longer have exposure to high yield, the same holds true for that asset class. 

What is your perspective on the Federal Reserve’s “wait and see” approach to policy decisions?

The Fed’s “wait and see” approach reflects “uncertainty,” as repeatedly emphasized by Powell, amid tariff-driven inflation concerns. It seemed prudent for the central bank to hold rates steady to see how these new policies would work their way through the economy. Now, with a few additional months of data, the bigger question is how long the Fed is going to “wait and see.” Despite a 10% universal tariff, consumer price index (CPI) data during the first half of 2025 remained muted and even came in below expectations. 

At the same time, tariff revenues through the first five months of 2025 matched 2024’s full-year total, so they are being paid. That leaves a combination of the following: companies may be absorbing costs, or consumers are choosing to spend more cautiously. There is an argument that inflation cannot increase materially without an increase in the overall money supply (M2). With M2 growth still near historic lows, a significant inflation spike from tariffs seems unlikely, in our opinion. However, ongoing trade deal uncertainty hampers business planning, which could very likely slow growth. The Fed is attempting to balance subdued inflation while not stifling economic growth. This is not an easy job during the best of times, and harder with the complexity of global trade negotiations. 

Would you please discuss returns across the fixed income market in 2025? 

During the first half of 2025, fixed income markets saw the prices and yield spreads fluctuate significantly but also saw strong rebounds post-tariff announcements. Since beginning and ending spreads were mostly unchanged, spread products benefited from the higher yield those products provide over Treasuries. As a group, investment grade corporate bonds returned 4.17%, while the return of mortgage-backed securities (MBS) securities were similar at 4.22%. Both of those asset classes outperformed Treasuries, which returned 3.79%. Though we are not invested in either asset class, corporate high-yield bonds returned 4.57% and municipal bonds lost 35 basis points.

Where along the yield curve are you finding the most opportunity?

After experiencing an inverted yield curve for several years, the 2- to 10-year yield spread stayed positive during the entire first half of 2025. It has stabilized near +50 bps during the past three months, while the 2- to 30-year spread is near +100 bps. This trend allows our portfolio to once again earn “roll yield” as the bonds we own age closer to maturity. Additionally, a positive term premium allows us to earn higher yields at longer maturities. Within our current neutral duration guidelines, we have found the most opportunity in 7- to 10-year investment grade corporate bonds, which leverage both positive treasury and corporate credit curves.  

Have you made any notable changes to the credit quality profile of the fixed income portfolio in response to evolving credit spreads or liquidity conditions?

In April/May 2025, we took advantage of opportunities during the credit market volatility. We made targeted purchases to increase credit exposure without altering the Fund’s overall credit profile or allocation. Throughout the past several years we have shifted toward higher quality, during that time eliminating high-yield bonds, preferred stocks, and business development companies. However, we will continue to look to leverage wider corporate spread during times of market stress to enhance the portfolio.

What is the Fund’s duration profile and yield-to-worst as of 6/30/25?

As of 6/30/25, the Fund’s effective duration was 3.8 years, which is 1.3% longer than the respective benchmark. This falls within our current neutral duration policy, which allows for ±5% deviation from the benchmark’s duration. Given an uncertain rate outlook, we are not making a duration bet at this time. The yield-to-worst of the portfolio was 4.33%, 19 bps above the benchmark. (The 30-Day SEC Yield of the Fund (HEIIX) was 1.11% as of 6/30/25.)

What is your fixed income outlook for the rest of 2025?

For the second half, we believe yields face competing pressures: budget/debt concerns provide reasons to push rates up, while slower growth scenarios could drive them lower. We acknowledge there are more pieces than usual making up the puzzle that is our current macroeconomic environment, and many policies can change rapidly. 

Given the uncertainty, we are avoiding significant duration bets and are maintaining a neutral stance. Our focus is adding value through our credit management by targeting relative value opportunities in those markets and identifying any potential dislocations.