Small Cap Growth – Q2 2025 Commentary

U.S. small-cap equities posted strong gains in the second quarter. After the U.S. administration’s tariff pronouncements sparked early April’s sell-off, the market rebounded once investors recognized the steep rates were more a negotiating tactic than permanent policy. A temporary 90-day rollback created room for talks and minimally will stagger any additional inflationary impacts further into Q4. While broader resolutions remain uncertain, several smaller trade deals were completed, supporting the rebound. Meanwhile, macroeconomic data remained solid— core inflation trended lower and employment metrics held steady. The combination of a more measured trade environment and resilient economic indicators helped drive equities higher through quarter-end.

Performance:

The KCM Small Cap Growth (SCG) composite increased 14.23% (gross of fees) and 14.03% (net of fees) for the second quarter of 2025, outperforming the Russell 2000® Growth (R2G) Index, which increased by 11.97%, by +226 bps (gross of fees) and +207 bps (net of fees). Year-to-date, the KCM SCG composite increased 0.18% (gross of fees) and decreased 0.17% (net of fees), outperforming the R2G Index, which decreased 0.48%, by +66 bps (gross of fees) and +32 bps (net of fees). Additional performance information included in the table below.

Data as of 6/30/2025

On a relative basis, Communications Services and Health Care were the best-performing sectors versus the benchmark in the quarter. Communications Services’ robust performance was a result of our singular holding, a provider of digital advertising infrastructure.  The company continues to benefit from growth in its Connected TV segment, where it enables streaming platforms to deliver and monetize ad inventory. The company also stands to gain from a recent court ruling that found Google’s ad-serving practices to be monopolistic. While penalties remain undecided, we believe a more level playing field presents a meaningful opportunity for the company to grow market share. The Health Care relative results benefitted from our underweight positioning of a sector that did not perform as well in the market recovery. In addition, individual stock performance was led by a diagnostic testing company. The company has the only FDA approved MRD (minimal residual disease) diagnostic test for blood cancers, called clonoSEQ. It measures the small traces of cancer cells that may remain in your body during & after treatment and is more accurate than past methods. The stock has responded to increasing quarterly progression in both the adoption (volumes) and reimbursement rate (ASPs) for this product.

The largest detractors to relative performance for the quarter were Materials and Financials. Materials poor result was due to a producer of construction materials and services. Unusually severe weather, along with a recent acquisition that increased the company’s exposure to northern markets, disrupted operations and pressured margins. We view these as temporary seasonal impacts and believe the company remains well-positioned to execute on its margin-enhancement strategy. The underperformance in Financials was led by an insurance brokerage company. This is largely an isolated quarterly impact, as the stock was strong in Q1 when the market was down and then did not participate in the rebound.

For the year-to-date period, relative performance was strongest in the top outperforming sectors of Consumer Discretionary and Communications Services. Information Technology and Materials were the largest detractors to performance.

Outlook:

We anticipate a strong Q2 earnings reporting season as estimates were previously reduced in the face of increased trade and macro uncertainty while the resulting business & consumer activity has remained solid to date. Beyond that, we expect both Trade policy and the Federal Reserve’s Fed Funds Rate decisions will remain large swing factors as we head into the second half. Even after recent postponements, tariffs sit well above where they began the year—minimally 10% on most imports, steeper bands on China, and new sector-specific levies. Where policy ultimately lands is still unclear: durable agreements would reinforce the constructive backdrop of easing inflation and steady employment, while stalled talks could slow activity and squeeze margins. As for the Fed Funds Rate, the Federal Reserve is still expected to resume rate reductions, however the degree to which it impacts the long end of the curve and acts as stimulant to spending in areas that rely on financing (e.g. housing, autos) remains to be seen and will likely also be inter-dependent on government policies (i.e. deficits, tariffs). These items may continue to result in market volatility and could impact our expectation for overall economic growth and/or a certain sector’s ability to fully participate. However, outside of these factors there are a couple of large transformational multi-year growth opportunities that we expect will persist, such as Artificial Intelligence, onshoring of production, and increasing power generation needs, which are driving significant domestic investment and business activity. Several sectors are also benefitting from shifting government spending policies and/or an expectation of lower government regulations. The core of our strategy remains focused on identifying companies that can benefit from these types of durable trends, or simply their own unique product opportunities, to gain market share and/or expand their end markets meaningfully with good economic returns. Rather than trying to predict specific short-term macro-outcomes, we use scenario analysis and continually adjust the portfolio to lean into what we believe are favorable risk/reward opportunities that the market provides.

Thank you for your continued confidence in the Kennedy Capital team. Should you have any additional questions, please do not hesitate to contact us.

Sincerely,

Portfolio Manager

Assistant Portfolio Managers

Important Disclosures

Kennedy Capital Management LLC (“KCM”) is a Delaware limited liability company headquartered in Missouri.  KCM is registered as an investment adviser with the Securities and Exchange Commission under the Investment Advisers Act of 1940. Registration with the SEC does not imply any level of skill or training. Clients of the Firm include U.S. corporations, pension and profit sharing funds, colleges and universities, trusts, not-for-profit organizations, foundations, and individuals. KCM claims compliance with the Global Investment Performance Standards (GIPS®). GIPS® is a registered trademark of CFA Institute. CFA Institute does not endorse or promote this organization, nor does it warrant the accuracy or quality of the content contained herein. GIPS® are a set of standardized, industry-wide ethical principles that provide investment firms with guidance on calculating and reporting their investment results to prospective clients to ensure fair representation and full disclosure of an investment firm’s performance history.

Although the statements of fact and data in this report have been obtained from, and are based upon, sources that the Firm believes to be reliable, we do not guarantee their accuracy, and any such information may be incomplete or condensed. All opinions included in this report constitute the Firm’s judgment as of the date of this report and are subject to change without notice. This report is for informational purposes only and is not intended as an offer or solicitation with respect to the purchase or sale of any security. A complete list of all securities recommended by KCM in the preceding year, a fully compliant GIPS composite report, and the list of composite descriptions are available upon request from KCM at 10829 Olive Blvd., Suite 100. St. Louis, MO, 63141.

Investing in the stock market involves gains and losses and may not be suitable for all investors. Investing in equity securities is speculative and involves substantial risk.  Small cap securities may involve more risk than larger-cap securities. Investments concentrated in sector or specific industry may involve greater risk and volatility than more diversified investments.  

The Small Cap Growth Composite invests in growth securities of predominately small companies that generally have a market capitalization that is reflective of the Russell 2000® Growth Index. The Manager seeks companies with durable business models able to deploy assets into growing sets of opportunities providing superior rates of return. For comparison purposes the composite is measured against the Russell 2000® Growth Index. The U.S. Dollar is the currency used to express performance.

Composite specific data provided within this presentation has been calculated from accounts that are discretionary as defined in this paragraph. The assets shown are derived only from discretionary accounts. Non-discretionary accounts, as defined by KCM, are accounts that are not included in the composite due to one or any combination of the following criteria: there were significant cash inflows or outflows within the account; the account’s asset level did not meet the minimum requirement to remain in the composite; the account assets are managed by others using our non-discretionary model. The temporary removal of such an account occurs at the beginning of the month and the account re-enters the composite the month after the criteria has been met.

Performance returns are presented gross and net of investment advisory fees and include the reinvestment of all income. Gross of fee returns reflect the deduction of transaction costs and custodian fees but do not reflect the deduction of investment advisory fees. Net of fee performance is calculated using gross returns less the actual applicable annual management fee applied monthly. Past performance is not indicative of future results. A client’s return will be reduced by the advisory fees as described in Form ADV Part 2A and other expenses incurred by the account. For example, an annual advisory fee of 1% compounded quarterly over 10 years will reduce a gross 14.44% annual return to a net 13.32% annual return. Form ADV Part 2A is available upon request.

The performance figures reported herein are unaudited, may be based upon information obtained via electronic data sources (”feeds”) and may be subject to change. Data feeds from many of KCM clients’ selected custodians are obtained through third party sources, and are used to compare custodial data to KCM’s client account records as frequently as daily. Monthly, KCM reviews clients’ account holdings along with cash and share quantities against the custodial statements. In some instances, variances may exist between final audited custodial information and the information KCM obtains via such data feeds. Generally, any such variances are researched and reconciled within thirty days of the period end.

The information provided should not be considered a recommendation to purchase or sell any particular security. There is no assurance that any securities discussed herein will remain in a KCM portfolio at the time you receive this letter or that securities sold have not been repurchased. Allocations among industries, sectors and securities may vary and are subject to change without notice. Any securities discussed do not represent an account’s entire portfolio and, in the aggregate, may represent only a small percentage of an account’s portfolio holdings. It should not be assumed that any of the industry or sector allocation decisions mentioned, or securities transactions or holdings discussed were or will be profitable, or that the investment recommendations or decisions we make in the future will be profitable or will equal the investment performance of the securities discussed herein.

Sector Weightings are subject to change at any time.  Sectors are based on the Global Industry Classification Standard (“GICS”) classification scheme and are measured as a percentage of the total composite in terms of asset value as of the date indicated above.  Individual client portfolios may be different based on variations in security purchase price and date, and individual client restrictions. 

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Allocations to various assets classes change over time and deviate from any stated or targeted percentages of a total portfolio as a result of market conditions and reallocation decisions. Therefore, nothing herein reflects a static portfolio allocation that will remain the same or match stated target allocations of asset classes.

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The Russell 1000® Index measures the performance of the large-cap segment of the US equity universe. It is a subset of the Russell 3000® Index and includes approximately 1,000 of the largest securities based on a combination of their market cap and current index membership. The Russell 1000 represents approximately 93% of the US market. The Russell 1000® Index is constructed to provide a comprehensive and unbiased barometer for the large-cap segment and is completely reconstituted annually to ensure new and growing equities are included.

The Russell 2000® Index measures the performance of the small-cap segment of the U.S. equity universe. The Russell 2000®  Index is a subset of the Russell 3000® Index representing approximately 7% of the total market capitalization of that index, as of the most recent reconstitution. It includes approximately 2000 of the smallest securities based on a combination of their market cap and current index membership. The Russell 2000® is constructed to provide a comprehensive and unbiased small-cap barometer and is completely reconstituted annually to ensure larger stocks do not distort the performance and characteristics of the true small-cap opportunity set.

The Russell 2000® Value Index measures the performance of small-cap value segment of the U.S. equity universe. It includes those Russell 2000® companies with relatively lower price-to-book ratios, lower I/B/E/S  forecast  medium term (2 year) growth and lower sales per share historical growth (5 year) . The Russell 2000® Value Index is constructed to provide a comprehensive and unbiased barometer for the small-cap value segment. The Index is completely reconstituted annually to ensure new and growing equites are included and that the represented companies continue to reflect value characteristics.

The Russell 2000® Growth Index measures the performance of the small-cap growth segment of the U.S. equity universe. It includes those Russell 2000® companies with relatively higher price-to-book ratios, higher I/B/E/S forecast medium term (2 year) growth and higher sales per share historical growth (5 year). The Russell 2000® Growth Index is constructed to provide comprehensive and unbiased barometer for the small-cap growth segment. The Index is completely reconstituted annually to ensure new and growing equities are included and that the represented companies continue to reflect growth characteristics.

The Russell 2000® Growth Index is used as the benchmark.  The Index is unmanaged and represents total returns including reinvestment of dividends.  The benchmark is used for comparative purposes only and generally reflects the comparable risk or investment style of the Firm’s strategy.  The investment portfolios underlying the Index are different from the investments in the portfolios managed by the Firm.  Certain accounts may also use other benchmarks not listed in the GIPS composite report. The Verification and Performance Examination Report does not cover the benchmark returns included in the GIPS composite report.  Investors cannot invest directly in an Index.