Pancake virtual reality head-mounted displays (VR-HMDs) have attracted the attention of researchers in both academia and industry because of the compact size and light weight. However, owing to the use of optical path folding, there exist various stray lights in the optical system, which seriously degrades user experience. In this study, we analyze the causes and effects of multiple types of stray light systematically and design a VR-HMD with low stray light, large exit pupil diameter (EPD), compact form and light weight. Subsequently, several effective stray light suppression solutions are proposed and implemented. Finally, a prototype of a compact pancake VR-HMD system is successfully demonstrated. The prototype has stray light of less than 2.3%, a diagonal field of view (FOV) of 96° and an EPD of 10 mm at an 11 mm eye relief (ERF).