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This Tiny Fund Focuses on the Numbers

From their home base in Texas, the managers of Hester Total Return practice old-fashioned stock-picking.

Sometimes, we come across little-known funds run by investment firms that are concerned mostly with managing money for institutional clients and wealthy individuals. These funds often go unnoticed for years, either because they were originally created to serve the firm's employees and their families, or because the money manager doesn't spend much money on marketing (or a combination of the two). In either case, such under-the-radar funds are often tiny.

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A good example of this phenomenon is Hester Total Return, the only retail fund on the menu at Hester Capital Management, an Austin, Tex., firm that manages nearly $1.5 billion for institutions and private clients. The fund, with just $11 million in assets, has been around in its current form since 1998. Previously, it was run as a balanced fund by another central Texas money manager. Between September 1, 1998, when Hester Capital took control, and February 28, 2007, the fund (symbol AHTRX) gained an annualized 8%. That beat Standard Poor's 500-stock index by an average of two percentage points per year.

Managers Craig Hester and John Gunthorp are adamant in explaining their company-by-company approach to stock-picking. "That's how you make money in this market -- you focus on companies" rather than making sector bets or calls on the direction of the overall market, says Hester, who has been managing the fund since 1998. He and Gunthorp invest in companies of any size, focusing on those that sell at bargain prices.

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The managers pay attention to hard numbers, such as a company's return on assets and operating profit margins. "These things tell us how efficiently management is utilizing assets and the level and direction of profitability," Hester says. He and Gunthorp also look for companies that sell at inexpensive prices relative to their own history, their peer groups and the market. "Basically, we're trying to find companies with reasonable stock prices showing improvements in earnings," Hester says.

There's one more layer to the fund's investing process. The managers look for a catalyst that can drive a stock's price higher. That might be a change in management, the restructuring of operations, or a new product in the works. Hester and Gunthorp buy companies with the intent of holding them for one to two years.

With the exception of Toyota and Philips Electronics, all of the fund's holdings are based in the U.S. Hester's top six holdings -- which account for 20% of assets -- are Citigroup, Bank of New York, General Electric, Baker Hughes, American International Group, and Hewlett-Packard. The fund also owns a handful of midsize names, including Rockwell Automation, which produces industrial equipment for factories, and Republic Services, a waste-management company.

Benefiting from expanding overseas opportunities, industrial companies have given the fund a boost lately. A recent addition is mining-equipment firm Joy Global. The fund also has 14% of its 54-stock portfolio in energy companies, including ExxonMobil and ConocoPhillips, and two energy-focused utilities.

Hester Total Return charges 1.70% in annual expenses. That's well above the average 1.40% expense ratio for all diversified U.S. stock funds.

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