We are now at the highest level of market concentration in over a century with the top 10 stocks accounting for 40% of S&P 500 market capitalization. Since the launch of ChatGPT, 75% of S&P 500 returns and 90% of capital spending growth is accorded to AI-related stocks. The AI boom is in full swing, and Sam Altman, is the puppet master of all things AI. He has been quoted as saying, “AI will probably most likely lead to the end of the world, but in the meantime, there will be great companies”. We partially agree with him. Starting with our disagreement, we don’t see the end of our world. We believe that humans have repeatedly shown immense creativity to discover and adopt new technologies and therefore, we feel AI will be no different. We agree that there will be great companies. However, we question why we should assign such a huge valuation premium to OpenAI if its leader believes that all the investments will most likely turn to ashes as the world comes to an end.
We are going to shy away from any philosophical debate on AI. We acknowledge its enormous potential to reshape our very existence and its catastrophic risks that many conjure up in their imagination. Instead, we will focus on its near-term impact playing out visibly in our economy and the markets, highlighting our investment views and portfolio positioning. The Latin phrase, “Amat victoria curam”, which translates to “Victory loves preparation” comes to mind as we reach the milestone of 5 years of our firm and investments.
Figure 1 highlights the current environment that has been described by many as the worst time for Value investors. While we wrestle with this every day, we remain confident that our portfolios are well positioned for the future even in light of the expected changes to be ushered in by AI. Value total returns are now at historic lows and well below the trendline on a price performance basis.
The building of AI infrastructure requires enormous investments in computing power, data centers, power/ water supply and human capital. Figure 2, which was highlighted in a recent Mckinsey report estimates that between 2025-30, 124 Gigawatts of additional data center capacity requiring an investment of $6.7 trillion is required to keep pace with the demands for compute power. Data centers handling AI processing load will require $5.2 trillion while traditional data centers will need the remaining $1.5 trillion. Roughly speaking, each gigawatt of compute power requires investment of $50 BB, of which 65% will go towards IT equipment, 30% to data centers and infrastructure and 5% to power generation.
A big portion of the IT equipment investment requirement for AI data centers of $3.3 trillion is being incurred by cloud computing operators and developers of AI large language models (LLMs). Among the major players are Amazon (AMZN), Alphabet (GOOG), Meta Platforms (META), Microsoft (MSFT) and Oracle (ORCL) who have dramatically increased their capital expenditure. Leading developers of AI technology such as OpenAI, Apple, Tesla and dozens of companies building LLMs for a variety of applications will use the compute power hosted by these major players. Therefore, it is worthwhile examining the pace of spending by the Big 5 AI Infrastructure Players and how it is being funded.
Figure 3 shows that the legacy business of the Big 5 AI Infrastructure Players is generating enough Cash Flow from Operations (CFFO) to fund capital expenditure that is now over $300 BB and has more than doubled over the last two years. The ratio of Capital Expenditure (capex) to CFFO is expected to be slightly over 70% in 2025 and is aided by significant non-cash stock-based compensation expense for this group. Excluding this benefit, the CFFO is now barely funding the capital expenditure. It should also be noted that a big portion of the current capex is being directed towards Nvidia chips that have dominant market share as the LLMs are currently in their earliest phase that involves learning for the AI models. The benefits to this chip deployment will come several years into the future when these models are used for inference, and it is only at this time that revenue generation will occur. Moreover, Depreciation and Amortization (D&A) expense associated with these investments is currently far less than the current rate of rapidly increasing capex and this will start impacting Net Income in the future. In other words, the major portion of the infrastructure capex that is directed to computing hardware will be depreciated over the next 2-4 years due to the high workload and obsolescence of chips. In the last 5 years, the combined capital expenditure for this group has been around $1 trillion and will have to be ramped up dramatically to meet the compute needs by 2030.
(AMZN, GOOG, META, MSFT and ORCL)
This leads us to the big investment question: Will there be enough revenue to generate adequate returns and provide a source of continued funding for this enormous AI infrastructure investment? Of course, everyone is currently enjoying a bonanza and there is a strong belief that good times will continue. The combined market capitalization of the Big 5 AI Infrastructure players along with Nvidia (NVDA), Tesla (TSLA) and Apple (AAPL) is approaching $22 trillion, tripling in the last 3 years. We, as value investors, are skeptical that future returns on AI investments will justify this excessive valuation. If we assume that a 33% increase in valuation is due to growth of existing business and the rest is due to expected returns from AI investments, we must accord over $10 trillion of the $14 trillion increase in valuation to AI investments for just these 8 companies. As we highlighted earlier, McKinsey expects that between 2025-30, $5.2 trillion will be invested in AI by all the companies (including real estate and energy providers). If assets are depreciated on average over a period of 4 years (note that AI chips are depreciated in 1-3 years and much faster than data center buildings), and we expect to earn a ROIC of 10%, there needs to be $1.8 trillion of profits generated to account for depreciation expense and cost of capital. Additional expenses including labor cost and taxes imply that revenue from AI should be approaching at least $3 trillion. We think that this is a tall order and fraught with significant risk. In our view (and similar to what happened during the dot.com bubble), future AI investors will always expect a positive return for continued supply of capital and most likely, it will come at the expense of current investors who will go through significant dilution or bankruptcy. As in the past, we will witness the demise of many early movers while some large, entrenched players who remain cautious will benefit, and new ones will emerge who might not even exist today.
Quarterly Summary
During the third quarter, our portfolios underperformed the Russell 1000 Value Index, with PVP Focused Value finishing ahead of PVP Diversified Value. On a year-to-date basis, both Focused and Diversified are slightly behind the benchmark. Our goal is to outperform our benchmarks over extended periods and we remain confident in our portfolio positions.
| Benchmark Indexes | Returns |
|---|---|
| Russell 1000 Value Index | 5.33% |
| Russell 1000 Growth Index | 10.51% |
| S&P 500 | 8.12% |
| Princeton Value Partners Funds | Returns |
|---|---|
| PVP Focused Value Class A | 4.55% |
| PVP Diversified Value Class A | 4.23% |
Figure 4 highlights the net long-term performance of the PVP Focused Value and PVP Diversified Value funds along with several leading indices. Since inception, our funds have meaningfully outperformed major benchmarks. The PVP Focused Value Fund has generated gross returns of 177.7% (net returns of 169.8%) compared to the Russell 1000 Value Index at 90.4% and the S&P 500 Total Return Index at 114.3% since inception on October 1, 2020. The PVP Diversified Value Fund has generated gross returns of 147.9% (net returns of 140.9%) compared to the Russell 1000 Value Index at 93.3% and the S&P 500 Total Return Index at 120.2% since inception on November 2, 2020.
The gap between the Russell 1000 Growth and Russell 1000 Value, as shown in Figure 5 5, is now at the widest since we started tracking it over 6 years back. For the quarter, the Russell 1000 Growth rose 10.5% (this follows a staggering rise of 17.8% in the second quarter), while the Russell 1000 Value rose 5.3%, a nearly 500 basis point gap in three months. We are now at the highest separation in our 20 quarters of operation.
In September, the Fed cut interest rates by 25 bps and is expected to announce two more rate cuts by the end of the year. The equity market has traditionally ignored risks associated with a prolonged government shutdown, and this time seems to be no different. Tariff wars no longer make the headlines, but a recent increase in rhetoric on higher China tariffs spooked equities for a day. Interest rates have drifted down even though gold prices, which traditionally rise due to expectation of higher inflation or chaos, have crossed $4000 per ounce for the first time in history and are up more than 50% this year.
Our outlook for the US economy is increasingly cautious in light of several data points:
- Auto Loan Delinquencies: There has been a significant increase in subprime auto delinquencies, with 60+ days overdue loans now exceeding 6%. This marks the highest rate in 30 years (even exceeding the 2007-08 levels experienced during the GFC). Data suggests delinquency rates for auto loans across all credit categories are now on the rise. The average cost of a new car has ascended to historic highs, now exceeding $50,000, with 7-year duration loans being offered to lower monthly payments for some buyers.
- Employment: Although it is not very clear what AI’s impact on job creation will be, the growing consensus is that the value will be realized through rationalization of human capital usage. In the first three quarters of the year, companies have announced nearly 946,000 job cuts, up 55% y/y and the fifth highest YTD total in last 36 years [ 1 ]. Previous periods with this many job cuts have typically occurred during recessions. In addition, company hiring has slowed markedly, US-based employers announced plans to add only 205,000 jobs from January to September, the weakest year-to-date period since 2009.
- Student Loan Repayments: Following a 42 month pause, student loan repayments restarted this month. As of August 2025, the total student loan debt that needs to be repaid is approximately $1.81 trillion. Over 42 million Americans currently have outstanding student loans, with the average debt per borrower around $39,000. The delinquency rate has been rising, with about 10.2% of loans currently 90+ days delinquent. In addition to wage garnishment (which can now commence), the government can also garnish an entire tax refund from Feb 2026, if student debt is not being repaid.
- Corporate Bankruptcies: As of late 2025, US corporate bankruptcies are elevated, continuing an upward trend seen since mid-2022 and now reaching levels not seen since the Great Recession. The first half of 2025 saw 17 mega-bankruptcies (companies with over $1 billion in assets), the highest half-year total since 2020. Over the 12 months ending in mid-2025, 32 mega-bankruptcies were filed, which is significantly above the historical average. Notable large bankruptcies include: First Brands, Tricolor, Rite Aid, Spirit Airlines, Weight Watchers and Hooters. We are increasingly concerned about the rise in loans to Non-Depository Financial Institutions (NDFI) and the potential systemic risk that this opaque lending represents.
- Single Family Home and Rental Prices: Data from Zillow, Freddie Mac and AEI Housing Center indicate that existing home price appreciation in the US has been on the decline since May of this year. As of October, the US Home Price Appreciation index has increased by only 1%. Single family rent growth in the top 20 US markets is now expected to rise by less than 1%, representing the smallest increase since 2011 [ 2 ]. Additionally, search interest on Google for “help with mortgage” is at the highest level since 2009.
- Leisure Spending Stress: Travel remains healthy but is beginning to show some stress. Airlines have reported good numbers, however, they are increasingly reliant on business and wealthy travelers. The Las Vegas economy, which has been a reliable lead indicator on many modern-day US economic downturns, is starting to collapse. Every metric for Vegas health has begun to show weakness, hotel bookings are negative for the first half of this year with visitors down 11% y/y, hotel occupancy down 6% y/y and revenue per room down 14% y/y [ 3 ].
Portfolio Update
Our Industrial holdings were the biggest contributors in the quarter. L3Harris Technologies (LHX), a leading defense company, was up 22% after the company reported good results with continued revenue growth, margin improvement and guidance that exceeded expectations. The stock is now at a 5-year high and continues to trade at a valuation that remains compelling. Ryder (R), our investment in trucking and logistics business, continues to generate excellent results with management allocating capital in a prudent manner and replacing its assets opportunistically. Over the last 15 months, the company has decreased its fleet size by 3% maintaining healthy margins while using the available cash to continue rewarding shareholders with stock buybacks.
Among our Technology holdings, Intel (INTC) was up 50% for the quarter and was the best performing stock in our portfolio. We have written about INTC in our past newsletters laying out our investment case clearly and reminding investors that patience is required for our thesis to play out. We have highlighted the strategic importance of domestic semiconductor manufacturing to US national security and that INTC is one of the only three global players capable of operating cutting-edge fabrication facilities. Our view remains the same as before, we believe that if the company can make a commodity return on all its foundry investments, the stock will be a phenomenal investment. US government has taken a 10% stake in INTC in lieu of the grants provided under CHIPS act and more recently, Nvidia (NVDA) has taken a 4% stake for $5 BB investment. We have pointed out the risk of dilution faced by current shareholders as the company seeks more capital for its foundry business. However, we view NVDA’s investment as positive and strategic in nature positioning the company to manufacture cutting edge AI chips into the foreseeable future.
Financials continued to deliver good results for the quarter as all aspects of financial services industry, trading, investment banking and wealth management continued to remain strong. UBS posted strong results and was up 21% in the quarter while Morgan Stanley (MS) continued to report good numbers and was up 13%. Fidelity National Financial (FNF) fell 3% as housing market transactions remain below trend and elevated mortgage rates continue to dampen housing activity. We continue to remain neutral on Financials and remain focused on owning companies in the sector that have relatively strong balance sheets combined with limited credit-sensitive exposure and a high-quality customer base.
Our Materials holdings remain under pressure. FMC Corporation (FMC), a leading provider of agricultural products, was down 19% as the sentiment remains weak on the stock. Our view is that excess inventory of its agricultural products in the channel should be depleted by the end of the year, and revenue/profitability should normalize. The valuation remains compelling, although we do worry about a dividend cut as the yield is now approaching 8%. Dow (DOW) declined 13% in the quarter following a dividend cut in half to $0.35 amid a difficult macroeconomic environment. We continue to believe that the company is significantly undervalued as the replacement value of the plant is much higher than its current enterprise value. We believe that no new entrant should add capacity and that the company remains well positioned with US natural gas providing an advantaged input cost.
Among our healthcare holdings, CVS Health (CVS) was up 9% for the quarter. Our belief remains that CVS provides essential healthcare services that are virtually impossible to replace in a highly complex system, thus allowing it to earn a fair return for its investments. The competition, among which is United Health, was aggressively pricing contracts while simultaneously curtailing patient services to report good profits, a strategy that is proving to be unsustainable. It should be noted that health insurance premiums continue to grow faster than GDP for the last 3 years at nearly 7% increase y/y due to increasing cost. In addition, the increase has to be accepted by the consumer as each player in the industry needs to generate adequate returns, a positive trend over the long-term.
We were surprised by the performance of our Consumer Staples holdings during the quarter, in particular Kenvue (KVUE). Over the last year, we have gradually raised our exposure to Consumer Staples as the premium valuation for the sector has diminished. KVUE was down 23% in the quarter as Robert Kennedy Jr., US Secretary of Health decided to link Tylenol’s usage by pregnant woman to autism. Our view is that Tylenol and its generic versions have been used for decades, and the medical community has poured significant support for its continued usage with a safety profile based on long history of real-world evidence data. More recently, the UK filed a case against the company linking its talcum powder to cancer, a case that is currently in US courts. Our understanding is that KVUE’s predecessor, Johnson & Johnson (JNJ) has indemnified the company for all legal liabilities related to talcum powder litigation. Dollar General (DG) was down 10% as its lower income customer base continues to struggle in an inflationary environment and weakening labor market.
Among our Consumer Discretionary holdings, Whirlpool (WHR) declined 23% as existing home sales remain weak and tariffs continue to impact margins. D.R. Horton (DHI) was a stellar performer, up 32% for the quarter. We continue to believe that the stock will be bolstered by a structural supply shortfall in single-family homes, to the tune of 5-7 MM units. In the interim, the company has shown its ability to generate superior returns by focusing on profitability over volume and deploying capital to share buybacks. We model the business conservatively, assuming operating margins of 14%, substantially lower than the current level of 17% and an average of over 19% for last three years. With a P/N of 11x, we believe the stock has over an 80% upside. We bought Lockheed Martin (LMT) and United Parcel Service (UPS) for our Diversified fund. LMT is a leading defense company and is discussed in greater detail in our highlighted holdings section. UPS is a leading provider of package delivery services. In a competitive industry that went through significant growth in volume as more packages are delivered due to changing consumer shopping habits, profitability peaked on growing revenue and margins in FY21-22. The rise of Amazon as a major customer that started developing its own delivery network while parsing out less profitable routes to existing players combined with operational issues such as labor cost inflation, rising fuel cost, and higher equipment costs impacted profitability. The stock price has declined from a peak of over $220 to nearly $80 over the past 4 years. Although we expect profitability to increase from current levels, with minimal growth expectations or change in profitability we model the stock trading at a P/N of less than 10x.
Highlighted Holdings
In the closing section of our letter, we highlight two current investments. We believe both are essential businesses with strong competitive positions operating in attractive market niches. They are industry leaders trading at discounts to estimated fair value based on conservative revenue and cash flow assumptions.
Genpact (G)
G is a leading business process outsourcing (BPO) and information technology (IT) services provider. The Company was founded as GE Capital International Services (GECIS) near New Delhi to outsource internal back-office activities for GE Capital. Over the years, the Company has expanded its client base outside of GE, procuring work globally and delivering services using offshore staff based in India. The Company currently employes nearly 130,000 people and generates revenue of more than $4.8 BB.
IT services is a competitive industry, and the BPO segment is an attractive niche with an addressable market expected to grow at an annualized rate of 9.1% from $58 BB in 2022 to $111 BB by 2030. Growth comes primarily from large organizations as they outsource non-core operations to providers that can generate efficiencies through technology and labor-cost arbitrage. The introduction of innovative technologies, improvements in telecom infrastructure, and increased digital capabilities have allowed IT service providers to offer new value-enhancing BPO offerings.
Multiple factors, both company-specific and market-oriented, had led to a decline in the stock price from over $50 to around $30, making the stock a compelling value. Although history suggests that improvements in technology and communications lead to more BPO opportunities, we believe the market is assuming new AI technologies will disrupt the entire IT services business model and create an existential threat. In FY22 business conditions became challenging due to slowdown in short-term, project-oriented work and operating margins declined to 11.5%. Revenue growth slowed in FY23 but the company’s focus on cost efficiency resulted in operating margin rebounding to 14%. In 2024, Tiger Tyagarajan, the iconic CEO who led G for over a decade, handed the reins to his successor. Revenue growth improved further as organizations continue to implement IT upgrades to gain greater operational efficiency, allowing G to achieve operating margins now approaching 15%.
While we agree that AI technologies will automate more tasks, these functions will still require BPO companies for implementation and management. Our view is that as the sector matures, G and its peers will continue to generate increased cost efficiencies and capture value by shepherding clients through the adoption of new AI and digital technologies. The sector has a very steady revenue profile with average contracts lasting more than five years. Customer retention rates are high due to significant switching costs and clients’ desires to avoid disruption. Moreover, we believe that the industry is ripe for consolidation as the largest player in the sector, Accenture, has less than 10% market share, and 63% of the industry is made up of small operators.
We project Normalized revenue of $5.5 BB in FY29 based on our assumption of 4% y/y growth, a number well below historical trends and far less than the expected growth rate of the addressable market. We expect operating margins to settle in line with G’s long-term average of 13%. Our estimates yield a Normal EPS of $4.07. Based on the quarter-end closing price of $41.89, the stock trades at an extremely attractive valuation with P/N of 10.3x.
Lockheed Martin Corporation (LMT)
We recently purchased Lockheed Martin Corporation (LMT), a leading global manufacturer and supplier of aerospace, arms, defense and security products for the PVP Diversified Fund. We owned LMT in the past and the significant decline in the share price to around $420 following the quarterly results in July, presented an opportunity to establish a position once again. We view LMT as a preferred defense manufacturer and leader in its field, providing essential products for decades. Although national defense budgets fluctuate, the industry can be considered non-cyclical with procurement programs for most equipment extending over long time periods. Currently, the US is spending around 2.9% of its GDP on defense and this has fluctuated between a high of 4.5% in 2010 (during the Iraq/Afghanistan war) and a low of 2.7% in 1999 (a relatively peaceful time). It should be noted that prior to 1999, the US defense budget had declined from over 11% of GDP in 1953 during the Korean war to less than 3% in 1999. Our view is that the level of 3% should be a cyclical low considering numerous current regional conflicts. We also view the defense budget as an outward signal of deterrence, preparedness and military might which falls in-line with the current Administration’s mantra of ‘Peace through Strength’. Over the years, the focus of the defense industry has transitioned from primarily leading through manufacturing expertise, to becoming an increasingly technology-led industry requiring large financial investments and varied research capabilities. This transition resulted in the consolidation of more than 50 defense companies into few major essential providers.
In FY 24 LMT generated $71 BB of revenue with the US contributing 74% while international sales accounted for 26%. LMT is a large, diverse and critical supplier for national security and can be considered a leading outsourced research arm of the US government shaping the future of national defense. Many of the programs managed by LMT are classified and exclusively contracted by the Department of Defense (DoD). Much of the company’s international sales are strategic in nature to allied countries approved by the US government to procure its advanced weapons. The company generates more than 60% of US revenue from the DoD.
From an investment perspective, the strength of LMT can be best understood by the diversity of its portfolio of products. The company is not dependent on just a few products or contracts and therefore offers stability in its financial operations. LMT operates in four main segments, Aeronautics, Missiles and Fire Control (MFC), Rotary and Mission Systems (RMS), and Space. Aeronautics contributes 40% of the revenue with the F-35, the leading fifth generation stealth fighter aircraft, contributing nearly 65% of segment revenue. The F-35 program was started in 2001 with a 50-year expected lifetime and the first aircraft was delivered in 2009. The segment also includes fighter aircrafts F-16 and F-22 along with C-130 Hercules tactical airlifters. The Missiles and Fire Control segment contributes 18% of revenue and provides air and missile defense systems, fire control systems, logistics, ground support and fire control systems. Among its well-known products are the Patriot Advanced Capability system along with numerous missiles of specific types such as air-to-surface, surface-to-surface and anti-ship missiles. Rotary and Mission System segment contributes 24% of revenue and designs and manufactures military and commercial helicopters, sea and land-based missile defense systems, radar and laser systems and command and control mission solutions. Space segment contributes 18% of the revenue and is engaged in design and manufacture of satellites, space transportation systems and strategic, advanced strike and defensive systems.
From a valuation perspective, our view is that defense industry exhibits many of the characteristics of a non-cyclical consumer staples business with steady revenue growth and stable operating margins while its valuation and stock price multiples are more like a cyclical consumer discretionary business. LMT has average operating margins of 11.8% with a range of 10.1% to 13.4% over the last 10 years. Revenue growth over the last 10 years is around 6.3% of which we estimate that organic growth is around 4%. We model the business conservatively with 4% revenue growth and 11.5% operating margin generating a Normal EPS of $35.20. When the stock dropped to $420 after reporting its second quarter, valuation was very attractive at P/N of less than 12x for a very high-quality business. From a capital allocation perspective, we rank the company very highly with its current dividend of $13.80 each year yielding 3% and a stock buyback program that has bought back nearly 28% of the shares outstanding over the last 10 years.
As PVP celebrates our 5-year anniversary, we reflect on the challenges and achievements experienced from inception to date. We extend sincere appreciation to our clients, vendors and supporters, without whom our firm would not exist. As the next chapter of our business unfolds, we will continue to embrace opportunities with a contrarian mindset, independently questioning and acting against prevailing market sentiment to capitalize on inefficiencies caused by investor emotion.
Sincerely,
Manoj Tandon
CIO, Managing Partner
Tripp Blum
Portfolio Manager, Partner
| 1 | The Challenger Report issued by Challenger, Gary & Christmas | ↥..Return |
| 2 | Las Vegas Convention and Visitors Authority Executive Summary, June 2025 | ↥..Return |
| 3 | Burns Single-Family Rent Index | ↥..Return |
All data and returns cited in this letter (including for our own funds) are believed to be correct, but accuracy cannot be guaranteed. Positions held in our funds may change at any time without prior or subsequent notice to investors and/or readers of our letter. Past performance is no guarantee of future performance.