In the fourth quarter of 2025, Palm Valley Capital Management navigated a complex economic landscape characterized by a widening gap between market performance and the daily struggles of many Americans. This period saw the "K-shaped economy" intensify, where the affluent benefited from rising asset prices while others faced escalating living costs. The firm's investment strategy emphasized identifying undervalued, high-quality small-cap companies, leveraging market dislocations, and cautiously managing a significant cash position amidst persistent inflationary pressures and evolving Federal Reserve policies. The quarter's activities included strategic new investments and divestitures, all guided by a commitment to intrinsic value.
The year 2025 concluded with a stark contrast between the robust performance of major market indices and the economic realities for a large segment of the population. The S&P 500 Index surged by 17.9%, fueled by optimism surrounding artificial intelligence and expectations of continued Federal Reserve easing. Despite President Trump's assurances of widespread prosperity, many households grappled with soaring expenses in housing, healthcare, food, and education, far outpacing any perceived wage growth. The Consumer Price Index, criticized for its methodologies, failed to capture the true impact of inflation on average citizens, leading to a growing sentiment of dissatisfaction. This divergence underscored a fundamental disconnect between official economic metrics and the lived experiences of most Americans.
The Federal Reserve's decision to restart Quantitative Easing, despite record-high asset prices, further exacerbated concerns about a captive financial system reliant on central bank liquidity. This policy, designed for "reserve management," has inadvertently fostered asset inflation, providing financial security to some while rendering essential goods and services increasingly unaffordable for others. The authors criticized this long-standing "blind spot" in Washington regarding accumulated inflation, arguing that policy choices now oscillate between accepting inequality and triggering a recession. They noted a significant increase in speculative trading among younger demographics, driven by the perception that such ventures are the easiest path to financial comfort, a symptom of an over-financialized economy.
The U.S. stock market mirrored the broader economy's "K-shape," with a pronounced top-heavy structure. The "Magnificent Seven" stocks significantly outperformed the S&P 500, which in turn surpassed its equal-weighted counterpart. Small-cap indices, like the S&P SmallCap 600, lagged even further behind. This phenomenon led to a considerable number of U.S. stocks, particularly in the bottom quintile of the Russell 3000, experiencing substantial declines, with median losses reaching 40% or more. This widespread underperformance among smaller companies, despite overall market euphoria, provided a unique hunting ground for value-oriented investors. The firm observed the "Visine effect," where money managers ritually divest underperforming assets to "get the red out" of their portfolios, especially towards year-end, driven by tax-loss harvesting and window dressing. This practice, often more impactful than the traditional January effect, can create significant buying opportunities for patient investors.
Amidst this environment, the Palm Valley Capital Fund posted a 4.46% gain for 2025, with an average cash exposure of 74.7%. The firm's equity-only performance was 8.81% for the year, bolstered by its precious metals holdings. In the fourth quarter, the fund added three new positions: Domino's Pizza Group plc, Utz Brands, and Ingredion. Domino's Pizza Group, a leader in UK pizza delivery, was acquired due to its strong market share, cash-generative commissary model, and a record-low valuation despite ongoing profitability. Utz Brands, a prominent U.S. salty snack manufacturer, appealed to the fund with its consistent demand, improving free cash flow potential, and a balance sheet expected to strengthen as capital expenditures normalize. Ingredion, a global food and beverage ingredient producer, was chosen for its stable, mature business, efforts to cater to wellness trends, and an attractive valuation following recent operational challenges.
Conversely, the fund divested from several positions, including Avista, Forrester Research, Lassonde Industries, Northwest Natural, RPC, and the Sprott Physical Silver Trust. The decision to sell Forrester Research was influenced by observed cracks in Gartner's growth trajectory and the rapid advancements in AI chatbots, posing a legitimate risk to Forrester's business model. The fund's precious metals exposure, particularly silver and gold, had significantly contributed to performance, but their "feverish" price action prompted a partial divestment to reallocate capital to other asset-based holdings, such as Farmland Partners. The top detractors from performance in Q4 included Kelly Services and Flowers Foods, both of which faced industry-specific headwinds but continued to be viewed as attractively valued by the fund, leading to an increased position in Flowers Foods.
The year 2025 highlighted the importance of disciplined investing and resisting the temptation to chase market fads. The authors emphasized that being "early" in identifying market mispricings is not an error but a consequence of the market's irrational exuberance. They contend that the populace is nearing a breaking point with an economic model that disproportionately rewards asset owners. Drawing an analogy from Stephen Crane's "The Red Badge of Courage," they suggest that true mettle in investing comes from venturing into the neglected, "red" corners of the market, where fundamentals are often overlooked in favor of euphoric sentiment. This approach, characterized by a focus on intrinsic value and a margin of safety, allows the fund to capitalize on dislocations and uncover opportunities when others are simply "getting the red out."