Should Value Investors Buy KKR & Co (KKR) Stock?

If you are looking for the best ideas for your portfolio you may want to consider some of Greenhaven Road Capital‘s top stock picks. Greenhaven Road Capital, an investment management firm, is bullish on KKR & Co. Inc. (NYSE:KKR) stock. In its Q2 2019 investor letter – you can download a copy here – the firm discussed its investment thesis on KKR & Co. Inc. (NYSE:KKR) stock. KKR & Co. Inc. (NYSE:KKR) is an investment management company.

On August 1, 2019, Greenhaven Road Capital had released its Q2 2019 investor letter. KKR & Co. Inc. (NYSE:KKR) was one of the Top 5 holdings of Greenhaven in Q2 2019. The stock has posted a return of 35.1% in the trailing one year period, outperforming the S&P 500 Index which returned 20.0% in the same period. This suggests that the investment firm was right in its decision. On a year-to-date basis, KKR & Co. Inc. (NYSE:KKR) stock has risen by 18.9%.

Last month, we published an article revealing Greenhaven’s bullish investment thesis on KKR & Co. Inc. (NYSE:KKR) stock in its Q2 2020 investor letter. This suggests that the investment firm has been bullish for a long time on KKR.

Greenhaven’s fund posted a return of -4.0% in the second quarter of 2019, underperforming the S&P 500 Index which returned 4.3% in the same quarter. Let’s take a look at comments made by Greenhaven Road Capital about KKR & Co. Inc. (NYSE:KKR) in the Q2 2019 investor letter.

“KKR & Co. (KKR): Our largest position, asset manager KKR, benefits from secular tailwinds that have been pushing assets into the largest private equity firms. KKR has grown AUM at 18% per year since 2005. Given the anemic rate environment and volatility in equity markets, it is unlikely that pension funds and others that need a path to 8%+ returns are going to reduce their allocations to private equity any time soon. All indications are that AUM will continue to grow, which will provide further tailwinds to management and incentive fees.

Excluding the balance sheet investments, shares are trading at approximately 6X earnings. This in itself is an inexpensive valuation, but fortunately for us, the company is likely underearning in three ways. First, there is $60B in capital committed but not yet invested (dry powder) that is not yet earning fees. Of course, some capital will roll off with distributions to LPs, but overall AUM and management fees should increase over the intermediate term. Second, the firm has been launching new strategies that are not yet benefiting from scale or operating leverage. The economics of a private equity fund are such that losses are generated during the fundraising portion of a fund’s life cycle, and profits are small during the initial investment phases (pre-incentive fees). However, the economics get materially better when a second and third larger fund are layered on top of the initial fund and fees begin to be earned concurrently on multiple funds in the same strategy. Eighteen of KKR’s 22 strategies are less than 10 years old. To give a sense of how narrow the base KKR has been earning from, in the past 12 months, 84% of the realized incentive fees came from 28% of the AUM.

Finally, the company states “distributable earnings,” the industry norm for reporting and a conservative way to reflect the earnings available to the owners of the business (us). This is effectively management fees + realized incentive fees + realized investment gains (or losses), effectively stripping out accrued carry and unrealized gains (or losses). KKR is realizing gains through distributable earnings more slowly than they are accruing them. For example, 2017 distributable earnings amounted to approximately 6% of the value of the balance sheet investments. Historically, KKR funds have posted a return in the mid-teens. With $10.7B or $13 per share in investments held on the balance sheet and invested in KKR funds, the difference between realized and accrued can be very material, effectively understating revenue by hundreds of millions of dollars. To be clear, reporting distributable earnings is more conservative and removes the volatility of paper gains and losses, but it also defers likely future gains by accounting for them on the balance sheet rather than the income statement until they are realized.”

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In Q1 2020, the number of bullish hedge fund positions on KKR & Co. Inc. (NYSE:KKR) stock decreased by about 14% from the previous quarter (see the chart here), so a number of other hedge fund managers don’t seem to agree with KKR’s growth potential. Our calculations showed that KKR & Co. Inc. (NYSE:KKR) isn’t ranked among the 30 most popular stocks among hedge funds.

The top 10 stocks among hedge funds returned 185% since the end of 2014 and outperformed the S&P 500 Index ETFs by more than 109 percentage points. We know it sounds unbelievable. You have been dismissing our articles about top hedge fund stocks mostly because you were fed biased information by other media outlets about hedge funds’ poor performance. You could have doubled the size of your nest egg by investing in the top hedge fund stocks instead of dumb S&P 500 ETFs. Below you can watch our video about the top 5 hedge fund stocks right now. All of these stocks had positive returns in 2020.

Video: Top 5 Stocks Among Hedge Funds

At Insider Monkey we scour multiple sources to uncover the next great investment idea. For example, legal marijuana is one of the fastest growing industries right now, so we are checking out ideas like this under-the-radar stock to identify the next tenbagger. We go through lists like the 10 most profitable companies in America to pick the best large-cap stocks to buy. Even though we recommend positions in only a tiny fraction of the companies we analyze, we check out as many stocks as we can. We read hedge fund investor letters and listen to stock pitches at hedge fund conferences. If you want to find out the best healthcare stock to buy right now, you can watch our latest hedge fund manager interview here. You can subscribe to our free enewsletter below to receive our stories in your inbox:

Disclosure: None. This article is originally published at Insider Monkey.