How This Hedge Fund Returned More Than 50% in One Year

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While most hedge funds have underperformed the broader market in the last few years, one little-known fund has found a strategy that has unlocked tremendous value. 

The key: Find companies with strong pricing power that can compound their financial results at a sometimes staggering rate, without sacrificing customers. 

Valley Forge Capital Management seems to have identified those companies, posting a return of more than 50% for 2019, according to TheStreet's checks. 

In 2019, the Barclays Hedge Fund Index showed a 2019 return of 10.72% for U.S. hedge funds, a whimper compared with the S&P 500’s 27% return for the year. That’s no departure from the hedge fund index’s 2017 return of 10.36%, compared with the S&P 500’s 20%. And in 2018, hedge funds lost 5.2%, less than the broader market’s loss of 7%, but nobody likes to lose money.

What's even more impressive regarding Valley Forge's performance is that recent research from hedge fund consulting firm Agecroft Partners shows that "a lot of long/short equity managers that focus on very-large-cap U.S. stocks are losing money. There’s a rotation into long/short equity strategies that focus on small-cap stocks and emerging markets,” Agecroft founder Don Steinbrugge told TheStreet recently. But Valley Forge often -- but not always -- focuses on large U.S. companies. 

"We think that pricing power is a hallmark of a great business," said Dev Kantesaria, Managing Director at Valley Forge Capital Management. "The types of companies that we own are generally monopolies or oligopolies in their respective industries and when you have pricing power, you can overcome a lot of other market conditions, so even during a recession when industry volumes become soft, you can use pricing power to overcome those headwinds." 

Some of those businesses, Kantesaria noted, can raise prices by dozens of percentage points each year, without hurting customers and volumes of them. "We call them compounding machines," Kantesaria said. 

Here are some examples of key holdings in the fund and how the they performed in 2019:

  • Moody's Corporation  (MCO) - Get Report: +67% (10.6% expected earnings growth in 2021, according to FactSet. 25 times earnings, 19% above historical average)
  • S&P Global Inc  (SPGI) - Get Report: +58% (10.2% expected earnings growth in 2021. 24 times earnings, 14% above historical average) 
  • Fair Isaac Corporation  (FICO) - Get Report: +101% (16.8% expected earnings growth in 2021. 41 times earnings, 24% above historical average)

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