Lions Bay Q2 2025 Commentary - Guided by Discipline, Strengthened by Hedging

For the second quarter of 2025, Lions Bay was +4.90%, bringing our year-to-date returns to +8.80%. Our returns compare favourably to the S&P 500, which closed the first half +6.20%. More meaningful than the outperformance the Fund delivered on an absolute basis is the strong risk-adjusted nature of the performance. 

While the S&P 500 endured a dramatic sell-off from March through early April, down approximately 15% for the year on April 8^th, Lions Bay successfully protected our clients’ capital throughout the crisis, remaining positive for the year even at the depths of the sell-off in the S&P 500. 

As of June 30^th 2025, Lions Bay has generated a 5-year annualized return of 22.5%, and since inception has annualized 17.1% relative to the S&P 500 at 16.6% for 5-year’s and 13.8% since our inception date. The volatility of our returns since inception is 44% lower than that of the S&P 500, and our correlation to the market is 0.29. 

Our returns for the second quarter were balanced among our strategies, with the hedging strategy delivering large profits in early April and offsetting declines in our core portfolio holdings during the pullback. Our disciplined risk management and hedging tools positioned us to be aggressive during the crisis and take advantage of the value opportunities that emerged.

The current market environment is highly attractive for our strategy as we look ahead to the balance of the year. Despite the market trading at all-time highs and extended valuations, there is considerable divergence within sectors in the market, and we have been able to find compelling investment opportunities to deploy capital in both our core portfolio and our active trading portfolio. 

With respect to our hedging portfolio, given the massive decline in VIX we’ve witnessed over the past 8 weeks, the cost to protect our portfolio is at some of the most attractive levels we’ve seen since early Q1. The low cost of hedging creates a very compelling payout dynamic if we get another market shock and provides us with a sense of comfort as we approach the two worst months for the market seasonally in August and September, ongoing trade wars, geopolitical tensions, and a critical earnings season. 

Review and Outlook by Strategy

Our core portfolio was the largest contributor to our positive returns for the quarter. As our core portfolio investments pulled back in the sharp market decline of early April, we were well positioned to deploy capital, as we were realizing large profits from our hedges during the decline. 

Core Portfolio

Our biggest contributions from the core portfolio during the quarter were from two of our largest positions, Houlihan Lokey and Microsoft.  

We felt that Houlihan Lokey’s balanced business model was set up to gain share and thrive during a downturn, as their restructuring business provided stability to offset any slowdown in M&A activity.  HLI delivered strong quarterly results on May 7^th, reporting EPS of $1.96, well above sell-side estimates of $1.63 on stronger performance across all their franchises. The company sounded optimistic about their future pipeline increased their dividend to an annual rate of $2.40 from $2.28 prior.  We think it is a testament to the resiliency of their business model that management was confident to hike the dividend during such an uncertain environment, and note that Houlihan has now increased their dividend at a 5-year growth rate of over 13%, demonstrating a strong commitment to returning capital to shareholders – something we always look for in a core portfolio investment. 

Microsoft was a position we established in mid-March which we wrote about in our previous commentary. Boasting strong secular growth tailwinds, a pristine balance sheet and strong and defensible margins, we felt this company was well-positioned to weather the tariff storm and any corresponding economic slowdown. We felt the sharp declines in March/April period were more a factor of the stock being very widely owned rather than being driven by fundamentals, and were aggressive in adding to our position during the panic selling in early April.  The company delivered a strong quarter in early May, and rebounded dramatically in the following weeks. We sold the majority of our position in the weeks following the earnings as shares reached an extremely overbought level (highest RSI reading since late 2021 which preceded an extended multi-year decline in the stock) and no longer represented a compelling risk/reward in our view.  

MICROSOFT (MSFT US)

Active Trading Portfolio

Our active trading portfolio was also a positive contributor to returns for the quarter, as we were able to make a number of profitable short-term trades during the market dislocation in early April. Going into the Q1 reporting season, we were on the lookout for companies that were willing to paint us an incredibly dire economic outlook based on the prevailing tariff assumptions, knowing that once shares discounted this forecast, they would be well-positioned for upside on any tariff resolution. We were hunting in the sectors hardest hit by the trade war, and found compelling trades in the consumer discretionary space, specifically in footwear.

Given their large Asian manufacturing base, as well as growing Asian customer base, footwear companies were amongst the worst impacted by the proposed tariffs. This was evidenced by the share price performance of these stocks on the day of the April 2^nd tariff announcement, with Skechers (SKX) -17%, Nike (NKE ) -14.4% and Deckers (DECK) -14.5%. 

While much of the market had rebounded by late April, the shares of these companies continued to languish. We started to build a small position in Skechers in mid-April, buying $15k shares at an average cost close to $47. When the company reported results on April 24^th and pulled guidance completely, the stock traded off in the after-hours to the levels they were trading at on the market lows of April 8^th, and we were buying shares after hours for $46. Our decision to step in and buy the ‘worst-case-scenario’ news was rewarded within a matter of weeks, as the company received a takeover bid for $63 a share on May 5^th from 3G Capital, generating a 27% return in two weeks for our clients. We profited further during the quarter from realized gains of 12.7% in three weeks in Deckers, selling shares bought in the panic levels of April on the strong rebound around the Geneva trade talks with China.

SKECHERS (SKX US)

Looking ahead, we continue to find compelling active trading opportunities in other sectors of the market. Despite the market trading at all-time highs, there are still compelling pockets of value in cyclical sectors. One of the sectors we have been deploying capital to recently is homebuilders and other businesses related to construction. While the cyclicality inherent in these businesses prevents them from ever being a core portfolio holding, our active trading portfolio allows us to participate in the upside in these industries while maintaining a disciplined approach to structuring the trades to maximize liquidity and risk/reward. 

With the late May interest rate scare, with the U.S. 30-year bond trading through 5% on the back of demand from treasury auctions, we felt the risk-reward dynamic of these rate-sensitive sectors was becoming compelling. They were trading at 52-week lows, and in the event we had a complete resolution of the tariff war they would benefit from a return of consumer confidence, while a prolonged slow-down would likely necessitate faster rate cuts from the Federal Reserve. We felt these stocks had multiple ways to win at a time the shares were discounting an incredibly high level of pessimism. 

We put on a number of trades in this sector, building a position in home builder DR Horton and buying stock as well as a long-dated call spread in building products company Builders First Source (BLDR). We were encouraged to see Paul Levy, Chairman of BLDR step up in early May and buy over $50 million of stock in the open market. We were buying stock at similar levels in early June as well as an August expiry 120/145 call spread.  As BLDR rallied 19% over the following weeks, we monetized the call spread for a 54% return and have realized some gains on the long stock position. We continue to own DR Horton which is enjoying a strong rally to start the third quarter, with the stock up over 6% through the first week and a half of July.

Hedging Portfolio

Our hedging strategy did its job in early April, successfully protecting our clients from the sharp drawdown through April 8^th. At the worst levels of the market on April 8^th, with the S&P down 15% on the year and 20% from its highs, Lions Bay remained positive for the year. Despite the strong rebound through the end of April, with market closing close to flat on the month, the hedging portfolio was still a large profit center for the month which is a testament to our discipline of actively monetizing hedges as they pay off.

While there are obvious tangible benefits this portfolio provides in the form of substantial profits we realize by selling hedges that have greatly increased in value, the intangible benefits must be recognized as well. Our hedging portfolio enables us to be decisive and aggressive during the most harrowing periods of a market sell-off. The stability it provides allows us to put capital to work in our core portfolio at a time when true values are emerging, so that the portfolio emerges from the sell-off in a stronger position than when it entered it. 

Since mid-May, the hedging has been a drag on returns as we have continued to layer on portfolio protection. We want to always maintain portfolio protection against both known risks and against unforeseen risks when we are able to do so in a prudent and cost-effective manner.

Since late May, we saw almost every known risk facing the market resolve in a pro-risk fashion.  To name a few: 

• On May 23^rd Trump shocked markets with a threat of a 50% tariff on the European Union, causing a sharp sell-off in equity and bond markets, only to change his mind days later
• Following a spike in global bond yields in late May, with the U.S. 30-year trading through 5% on the back of weak demand, U.S. rates are once again under control due to a number of factors, including Treasury Secretary Bessent creating new demand for treasuries through a mechanism related to stablecoins, as well as changing the leverage requirement at new banks. Rate risk was further diminished by a dovish shift in the tone from some Fed governors with the possibility of a July hike being floated by a few
• After Israel attacked Iran’s nuclear enrichment facilities on June 12^th and the two states engaged in war, prompting a large spike in the price of crude oil, the U.S. conducted a massive bombing operation on Iran. Outside of a token response handful of missiles launched at an empty base in Qatar, the situation de-escalated immediately, with no apparent risk ahead to global oil production or of further military action
• July 3^rd employment data revealed a resilient jobs market, with strong payrolls and a decline in the unemployment rate to 4.1%, alleviating fears about an imminent slowdown in the economy
• Ahead of the much-anticipated July 9^th deadline for the April 2^nd reciprocal tariffs, by all accounts the U.S. administration has elected to kick the can down the road, and push the deadline to August 1^st

Each of these events individually had the potential to derail the market recovery, and the firehose of good news has driven markets to all-time highs. Unbridled risk-taking has consistently been rewarded, the TACO meme was born, and the New York Post ran a cover story with the headline “Tired of Wining Yet?” alongside a photo of President Trump dancing a jig. It has truly been a great stretch of time to be betting on blue-sky outcomes.

As our investors know, at Lions Bay we are in the business of managing against downside risk, and our strategy is always designed to have hedges on to protect our clients hard-earned wealth if the looming known risks do not resolve favourably, or that new and unforeseen risks emerge. 

Should pro-risk developments continue, we will participate through our long-term core portfolio investments, as well as by capturing shorter-term opportunities in our active trading portfolio. In our hedging portfolio, we will be disciplined about structuring portfolio protection in a cost-effective fashion. We are excited to see the payoffs of these structures get more and more attractive as investor concern about downside risk diminishes.

We are grateful to be trusted with your hard-earned investments and look forward to reporting to you again in the fall.  We wish all our readers a safe and healthy summer. Please do not hesitate to reach out with any questions, comments or ideas.

Disclaimer

This Commentary expresses the views of the author as of the date indicated and such views are subject to change without notice. Wealhouse has no duty or obligation to update the information contained herein. This Commentary is being made available for educational purposes only and should not be used for any other purpose. The information contained herein does not constitute and should not be construed as an offering of advisory services or an offer to sell or solicitation to buy any securities or related financial instruments in any jurisdiction. Certain information contained herein concerning economic trends and performance is based on or derived from information provided by independent third-party sources. Wealhouse believes that the sources from which such information has been obtained are reliable; however, it cannot guarantee the accuracy of such information and has not independently verified the accuracy or completeness of such information or the assumptions on which such information is based.