Why Ron Baron Is Sweet on Stocks

Ron Baron is a passionate bull. The billionaire mutual fund manager--tied at No. 311 on the Forbes 400 list of the richest people in the United States, with an estimated $1.5 billion--made his name as a stock picker at the helm of New York-based Baron Capital, which he founded in 1982. When Baron finds a company and a management team he likes, he sticks with it, a philosophy that has guided his team to invest early in a number of successful businesses such as Wynn Resorts, Ralph Lauren, and Under Armour, and has contributed to the long-term track record of his family of mutual funds.

While performance at several of them has slipped the past few years, Baron Growth Fund, which he has managed since 1994, has returned 8.7 percent annually for investors over the past 15 years. Baron, 69, earned a bachelor's degree in chemistry in 1965, attended law school at George Washington University, and worked for several years as a patent examiner before turning to investing full-time. He recently spoke with U.S. News about why he's so bullish on stocks when many are skittish, and where he's placing bets for the years ahead. Edited excerpts:

[Read: The 10 Most Popular Mutual Funds of 2012.]

You've said stocks are undervalued. What's your assessment of the markets?

Are stocks undervalued? Yes. Are stocks a good place for investors to be? Yes. One important reason is that they're so cheap and you've just gone through the worst 13 years in the United States' history. Of course, the reason the stock market has been so bad for the past 13 years is that it had been so good in the 1990s.

Normally the stock market trades between 10 and 20 times earnings, and the median is 15?. Since 1999, what's happened is that the multiple has fallen from 30-some-odd times earnings--which is the highest it's ever been--to 13? or 13.75, below the median. Now what's going to happen is that if businesses can continue to grow, you should be able to make a return commensurate with that growth going forward.

How might broader economic concerns, like the debt problems in Europe and the fiscal cliff in the United States, have an impact?

Governments not just here but all around the world have been in a concerted effort to say that they're going to make sure that the economies don't crash, don't collapse, don't have a depression. [But] what they're doing is they're devaluing your money. Inflation is what is taking away the value of your currency. What people have to realize is that stocks are a way that you can protect yourself against inflation. Everyone's afraid to invest. They're afraid of everything they read in the newspaper about what it's going to cost to expand their business and healthcare costs and taxes. There's tremendous uncertainty. I think that stocks are a way you can protect yourself. It's foolish to try to trade news and expect to be successful. Read the newspaper all the time, and you'll never want to buy stocks.

So investors should be optimistic?

Yes. They should be incredibly optimistic right now. When I was in law school ... my uncle gave me a book to read with the premise that if news was really bad, you're supposed to be buying, and if news was really good, you're supposed to be selling, because the news gets reflected in stock prices.

That's the way you're trained to think on Wall Street. When something really bad happens, you're trained to look for opportunity. When something really good happens, you're trained to think, well, gee, maybe it's reflected in stock prices. And if in 1999 you were watching what was going on with the Internet bubble, if you had some basis for examining businesses and studying them and valuing them, you wouldn't have wanted to invest in those businesses even if you thought they were changing the world, because the prices weren't reflecting a value.

And right now, think about businesses and the opportunities they have, and the balance sheets they have, and how sooner or later there's going to be a change in policy where they're going to give people who have all this cash incentives to invest and create jobs. I'm optimistic. I think that as soon as the dialogue becomes more positive, that's going to be positive for the economy. So I'm bullish.

[In Pictures: 10 Books Investors Should Read.]

How do you explain your investment successes with Baron Capital?

What we try to do is invest in businesses that have three characteristics. They have significant opportunities to grow because they're solving problems for the country. [To] double in size in four or five years instead of in 10 or 12 years. Number two: We're trying to find businesses that have competitive advantages that other people can't easily duplicate. For example, college housing. There are more than 5 million student dorm [rooms] that are becoming obsolete or are obsolete and need to be replaced. So we want to invest in companies that will be able to build on campuses for 80-year leases and be partners with universities.

And then we're trying to find management of businesses that is exceptional, that will make businesses grow. And that's people like Steve Wynn and Chuck Schwab and Ralph Lauren who we've been able to identify when they were younger. We have dozens of them right now. They're going to make very inspiring leaders, and they're going to make their businesses become much bigger.

And after we start with these businesses, we invest in them for the long term. We're not buying and selling and trading stocks and trying to trade news. The average mutual fund owns stocks for seven or eight months. Our average holding is seven years.

What are you buying now? And what should retail investors be looking for?

I would say the best things your readers could buy are mutual funds. It's hard to see how they can do as well as analysts. Student housing--American Campus Communities--is something that we own. Are they going to be able to find the next American Campus Communities? Or are they going to be able to find the next electricity transmission business? ITC Holdings. Or the next short-line railroad? Genesee and Wyoming. Or the next cybersecurity business? Booz Allen Hamilton. Are they going to find that?

Six years ago we had 20 investors; we now have 28. How are you going to be competitive with 28 guys who every day are visiting companies and studying those businesses and every day are meeting with those managements?

I think that they should be thinking about having a professional investor. Once they have that investor, I think they should examine carefully the sort of businesses in which their money has been invested. See if the businesses make sense to them. Does it make sense to invest in a business that sells used cars? Or that sells sporting goods stores? What you should do is look for the top 10 investments in a portfolio. Go read about them. Send for 10 annual reports. Take them home at night and read them, and see if it makes sense to have your money invested.

[See Are Second Terms Good for Stocks?]

What else should they keep in mind?

I think you should think about doubling your money every four or five years, because I think the value of your money is going to be falling at 4 percent a year due to inflation. You've got to protect yourself. That's what stocks do.

How do you invest personally?

I haven't invested in stocks since 1992, but I am the biggest investor in the Baron funds. When I started in 1970, I had a negative net worth--living in a basement of one of my friends in high school, sleeping on a cot next to a water heater. I have four stocks that I bought before 1992. Mutual funds, I own maybe five.

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