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Fidelity Trolls For Bigger Fish


Fidelity Investments is used to being top dog. Its almost $1 trillion mutual-fund operation is the world's biggest, its online brokerage boasts the most customers, and its business serving 401(k) plans outstrips those of its competitors. But when it comes to managing money for big institutions -- a $7 trillion pot -- Fidelity is an also-ran, overseeing just $80 billion in stocks. It ranks 12th among those managing pension-fund money, and it doesn't even make the top 25 for endowments, putting it miles behind the likes of State Street (MET), Barclays Global, and Mellon Financial (MEL).

Fidelity wants to change that. It has set up a money-management unit, Pyramis Global Advisors, that will oversee all equity accounts for institutional investors. Pyramis will have about 180 portfolio managers, analysts, and traders separate from those running Fidelity's $654 billion in retail stock funds. Even its offices are apart: For now they're down the street from Fidelity's mutual funds in Boston's financial district; in three years they'll move to Smithfield, R.I., where the company already employs 1,600 people. Peter J. Smail, an 18-year Fidelity veteran who had overseen Fidelity's 401(k) unit, is running Pyramis.

Fidelity has an excellent track record with such moves, having spun out its 401(k) business in 1990 and moved bond-fund managers out of its equity offices in 1997. "It looks likely to play well," says Donald Pierce, an investment officer at the $5 billion San Bernardino County (Calif.) Employees Retirement Assn. Just putting the business under a new name should help win more customers. "It makes sense to rebrand," says William F. McCarron, principal of Prime Buchholz & Associates Inc., a Portsmouth (N.H.) consultant with 200 institutional clients. That's because the Fidelity name is considered not nearly exclusive enough for the status-conscious world of institutional investors, he adds.

Still, Pyramis will present its own set of challenges. There could be an immediate clash over staff. The mutual-fund group is planning to add dozens of analysts to boost performance just as Pyramis goes on its hiring binge. "There's going to be a struggle for the crème de la crème," says one headhunter in Boston who declined to be named for fear of losing business. Highlighting the tension is Fidelity's decision to move Robert J. Haber, who now manages its best-performing large-cap mutual fund, the $80 million Fidelity Focused Stock Fund (FTQGX), which is up 13% so far this year. Fidelity tapped him to be chief investment officer at Pyramis, though for now he'll continue to run Fidelity Focused as well.

AMBITIOUS TARGET

Fidelity's plan could have another drawback. More institutional business could raise the pressure to cut fees on its mutual funds. Pension funds pay about half of what mutual funds charge. A study by University of South Carolina law professor John P. Freeman and Florida State University finance professor Stewart L. Brown found that the average management fee on a stock fund in 2003 was 0.56%, vs. 0.28% charged to a pension fund. Lawsuits filed by investors to force Fidelity and other firms to eliminate the premium are pending. Fidelity says its fees are well below average.

Pyramis is aimed at goosing Fidelity's slowing growth as the rapid expansion of its mutual-fund and brokerage businesses starts to tail off. Chairman Edward C. "Ned" Johnson III has set an ambitious target, aiming to double Fidelity's assets under management to more than $2 trillion in 10 years. So Fidelity is targeting independent financial advisers and families worth at least $25 million, as well as pension and endowment funds.

Creating Pyramis sidesteps a problem that institutions had with investing directly with Fidelity. They worried that Fidelity fund managers pulling double-duty by overseeing both institutional money and mutual funds were managing too much money to beat the market. Having one team oversee both "can cause a lot of friction within firms," says Pierce. Also, giving Pyramis its own trading staff should help it avoid any fallout from a Securities & Exchange Commission investigation into gifts accepted by some Fidelity traders.

The issue of funds getting too unwieldy is a big one for institutions. Studies have long shown that smaller equity funds beat market averages more often than bigger funds. (Though bigger bond funds do better than smaller, so Fidelity won't be moving any fixed-income managers to Pyramis.) Alaska's $8 billion state pension fund was considering hiring Fidelity for a $400 million international-equity account in March, but it ended up splitting the assignment between a much smaller rival and index-linked funds at State Street. Simply by starting a separate unit, says Smail, Fidelity creates "a whole new opportunity" to win customers such as Alaska.

Smail, 53, is typical of Fidelity's senior management, apart from the founding Johnson clan. He comes from modest roots. His father was a factory worker, and he grew up with nine siblings. A graduate of Northeastern University, he joined Fidelity's 401(k) marketing staff in 1987, where he caught the attention of now-Chief Operating Officer Robert L. Reynolds, who was heading that business. Smail took over when Reynolds was promoted in 2000.

Smail helped Fidelity spin off the 401(k) unit 15 years ago, and now he's starting from scratch again. Even selecting the name Pyramis, Latin for pyramid and a nod to Fidelity's logo, was an arduous task, he says. "A lot of good names are taken," he says with a laugh. Now he's hoping that there are a few good institutional investors still available.

By Aaron Pressman in Boston


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