SMCO Q1 25 Recap: Crossfire Hurricane & The New DDT

In the Rolling Stones song “Jumping Jack Flash,” Keith Richards refers to his arrival in a war-ravaged London with the line “I was born in a crossfire hurricane.” We are hard pressed to think of a better way to summarize markets so far in 2025: a crossfire hurricane. The chaotic mix of shifting policy, slowing growth, and a general lack of visibility has sent investors running for the exits. We entered the year optimistic but prepared for volatility. While our optimism now appears misplaced, with anticipated business-friendly policies overshadowed by tariffs and trade tensions, our expectation of increased volatility has unfortunately proven accurate.

Originally released as a single, “Jumping Jack Flash” was subsequently included on the compilation album Hot Rocks (1964 – 1971), released in December 1971. Around the same time, DDT – once hailed as a miracle pesticide – was banned by the EPA due to its toxicity. Today’s markets face a new form of DDT: DOGE, Deportations, and Tariffs. And this version appears to be highly toxic to stocks. The DOGE government efficiency initiative has so far been disruptive and is likely to stifle government activity – activity that, like it or not, has supported a meaningful portion of recent economic growth. The impact from Deportations remains unclear but we think it will inevitably affect workforce size and could put upward pressure on wages. While both of those “D’s” have rattled markets, their impact pales in comparison to the current Tariff maelstrom. Tariffs are already a drag on economic activity, but the inconsistent messaging – on/off, big/small, back/forth – has only amplified uncertainty. Equity markets, especially the more volatile small- and mid-cap segments, have responded by spiraling lower.

We feel the near-term setup for stocks is challenging. Corporations are seemingly paralyzed by a lack of regulatory, tax, and tariff clarity; consumers, reeling from market losses, are pulling back; and government spending is on the decline. Our constructive stance entering the year was based on expectations for healthy earnings growth, supported by the potential for pro-business policy tailwinds. Instead, emerging headwinds now point toward downward earnings revisions as we move through the year.

Earnings growth expectations for SMCO’s universe, the Russell 2500, stood at 20% entering the year. That expectation has now fallen to about 15% and may trend lower still. The recent market drawdown has improved valuations, but without confidence in forward earnings, valuation alone offers limited support. In this environment, the consistency and quality of earnings have become more important than the magnitude of growth. We believe companies that can maintain, or only modestly lower expectations, will stand out.

Accordingly, we’ve adjusted the strategy to reflect this reality, concentrating on high-conviction names with recurring revenue models, “self-help” attributes, secular growth drivers, or a combination of the three. While increased caution is warranted, we feel it must be balanced against a fluid macro and policy backdrop – any rollback or moderation of current policy could quickly change the outlook. Going into full bunker mode could prove premature.

We have started to cut the number of holdings, lowered the risk-on and cyclical components of the strategy and remain biased towards mid-cap over small cap. A defensive tilt feels prudent and we stand ready to adjust further if conditions warrant. This isn’t our first tough tape—and while each cycle has its own nuances, our belief is that having a disciplined process (and sticking to it) remains essential to navigating the storm.

While it may be difficult to stay focused on the long term, we continue to see meaningful opportunity within the small- and mid-cap space. Themes such as digital and physical infrastructure, the energy transition, and other secular growth trends remain intact – though currently obscured by near-term volatility. In fact, if efforts to reverse globalization gain traction, they could further strengthen the outlook for domestically oriented small and mid-sized businesses. Beyond these long-term thematic opportunities, our process is built to identify undervalued and underfollowed companies. Broad market selloffs often create dislocations, even in fundamentally strong businesses, and we remain vigilant in uncovering compelling ideas at more attractive entry points.

1Q25 SMCO Review

SMCO outperformed by a small margin in the first quarter, returning -7.02% gross/-7.13% net versus a decline of -7.50% for the Russell 2500. From the SMID market peak on November 25th, our relative outperformance was more pronounced but narrowed following what we refer to as “Deep Seek Monday,” when several of our top performers were hit by a break in momentum, as investors took profits in winning names. For the most part, these companies continue to experience strong business trends, but expanded valuations and investor crowding made them ripe for a pullback. A core objective of the SMCO strategy is to offer downside protection in weak markets, though sharp selloffs can make near-term differentiation more difficult. That said, our relative performance has improved during the early weeks of the second quarter, though there is still a long way to go before it’s fully played out.

The worst of the first-quarter damage was concentrated in Industrials, Technology, and Health Care. Many of our holdings in Industrials and Technology were larger positions that had experienced strong gains, so the momentum unwind had an outsized impact. In Health Care, performance was challenged by both broad sector weakness and specific concerns around drug development spending, where much of our exposure was concentrated. There were some bright spots, though they were smaller in magnitude. Our positioning in natural gas contributed positively to Energy performance, and as expected, our exposure to Utilities and Staples provided stability and delivered positive returns.

We have made changes to the strategy, with turnover at over 8%, and the market has made some changes for us as well. The net effect of trading activity and market movements has reduced our exposure to Communication Services (a high-beta area), Discretionary, Industrials, and Technology, while increasing our exposure to Staples, Energy, Health Care, Real Estate, and Utilities.

Perhaps more important than the sector changes, however, is the broader reorientation toward more defensive businesses and away from those that are more volatile or heavily exposed to macroeconomic swings. Technology and Industrials remain our largest sector exposures, but their composition has evolved. Within Technology, we’ve tilted further toward companies with recurring revenue models, while in Industrials we’ve trimmed positions in construction-related names. The outlook for many of these companies remains positive, but concerns around risk appetite, cyclical exposure and elevated valuations justify more modest position sizing.

Not Our First Rodeo

Hot Rocks is a great Stones collection, chronicling their entire 1960s catalog. We borrowed the lyric “crossfire hurricane” to describe year-to-date market action, and a few other lines from the album seem fitting for the potential paths ahead. If market conditions deteriorate, “a storm is threatening…gimme shelter” might capture the prevailing sentiment. An inability to resolve trade tensions or further weakening in macro conditions could push markets lower still.

On the other hand, if markets begin to stabilize, a different lyric might apply: “you can’t always get what you want, but if you try sometimes, well, you might find you get what you need.” Once investors gain greater clarity around policy and the underlying fundamentals, markets can begin to properly discount the new reality. Eventually, another line from “Jumpin’ Jack Flash” may come to represent the recovery: “but it’s all right now, in fact, it’s a gas.” That moment may be hard to envision today, but history suggests markets will ultimately heal.

In the meantime, we remain disciplined – focusing on protecting capital and identifying high-quality companies that have been unfairly punished in the broader selloff.

As always, thank you for your continued interest and support.

Important Disclosures:

Hilton Capital Management, LLC (“HCM”) is a Registered Investment Advisor with the US Securities Exchange Commission. The firm only transacts business in states where it is properly notice-filed or is excluded or exempted from registration requirements. Registration as an investment advisor does not constitute an endorsement of the firm by securities regulators nor does it indicate that the advisor has attained a particular level of skill or ability.

The views expressed in this commentary are subject to change based on market and other conditions. The document contains certain statements that may be deemed forward looking statements. Please note that any such statements are not guarantees of any future performance and actual results or developments may differ materially from those projected. Any projections, market outlooks, or estimates are based upon certain assumptions and should not be construed as indicative of actual events that will occur.

All information has been obtained from sources believed to be reliable, but its accuracy is not guaranteed. Sources include: Bloomberg. There is no representation or warranty as to the current accuracy, reliability or completeness of, nor liability for, decisions based on such information and it should not be relied on as such.

All investing involves risks including the possible loss of capital. Asset allocation and diversification does not ensure a profit or protect against loss. Please note that out- performance does not necessarily represent positive total returns for a period. There is no assurance that any investment strategy will be successful. All investments carry a certain degree of risk. Dividends are not guaranteed, and a company’s future ability to pay dividends may be limited.

Additional Important Disclosures may be found in the HCM Form ADV Part 2A, which can be found at https://adviserinfo.sec.gov/firm/summary/116357.