Who's Calling the Shots at Fidelity?
Nocera, Joseph
Who's Calling The Shots At Fidelity? What worries mutual fund managers should worry you. A look inside the high-pressure culture of Middle America's most popular investment BY JOSEPH NOCERA Once,...
...It also helped get him some 20,000 subscribers to his own highly priced newsletter...
...He'd come into the office on a Monday morning and discover that the fund had gained another $10 million over the weekend—money he was supposed to put to work immediately...
...we would have heard bells tolling joyously...
...It was Lawson's apparent opinion that the over-the-counter market was more than big enough to absorb $1 billion, and that the problem lay, essentially, with Stuka's fund managing style...
...Finally, Stuka asked Fidelity to stop advertising his fund...
...Vanguard, Fidelity's fiercest mutual fund competitor, did so with its most popular fund, Windsor, when it hit the $9 billion mark...
...To attract money into this unknown mutual fund, Fidelity could waive the load...
...it had some 8,000 people on the payroll by August 1987...
...How could they ensure that their company's products would be the ones to rise above the growing din...
...Some of the more adventurous of the new breed of middle class investors began speculating in rumored takeover stocks, though they played this game at a distinct disadvantage, since they usually got these rumors from The Wall Street Journal—which meant, essentially, that they were the last to know...
...In time, this became the classic Fidelity marketing strategy...
...It is there that this milestone is celebrated, as reporters and news commentators all agree that we have just witnessed a signature moment in a bull market that shows no signs of slowing down...
...When it will end is anybody's guess," a New York Times reporter could actually write in an August story about the bull market—a story published barely three weeks before the bull market reached its peak...
...How diversified should my portfolio be...
...Other cultural artifacts emerged...
...It was an open secret in the equity department at Fidelity that the marketers occasionally did more than push...
...Stuka needed to adapt...
...Money matters At the end of 1984, with the Dow Jones Average at 1211.57—and poised, after a lull, to make its next great surge—there were 1,246 mutual funds in America...
...Here, of course, was a second reason new funds were begun away from the glare of publicity...
...Was it really only two decades ago that most Americans put their savings in the bank (where the interest was regulated by law), had checking accounts that offered no interest at all, took out a 30-year fixed mortgage when the time came to buy a house—and then paid that mortgage off!—and, if they were in the stock market at all (and most weren't), they owned a few, inherited shares of, say, General Motors...
...It meant sending out direct mail packages to current customers and prospective ones, while prodding the nation's financial press to write stories about the latest hot fund manager to come out of Fidelity (invariably described by the public relations department as appealing and down-to-earth and brimming over with common sense, especially for someone so young...
...Instead, we live in a world where such events are signaled by the emphasis they are given on the network news shows and the nation's newspapers...
...We now worry endlessly about an entire slice of life that we used to take for granted...
...comforting about the notion that a professional fund manager is, in essence, making decisions on our behalf...
...There were growth funds that specialized in large stocks, and growth funds that concentrated on small stocks...
...Once an obscure investment instrument, mutual funds have become the financial vehicle of choice among middle-class Americans...
...It worked with George Noble's Overseas Fund, which had $2 billion iri assets within two years, and with Tom Sweeney's Capital Appreciation Fund, which had $1.5 billion in its first two years...
...Within many fund companies, power began accruing to those who sold the funds—the marketers—at the expense of those who ran them—the portfolio managers...
...There were days when people would walk into a Fidelity branch office, watch the stock tape for a while, and walk out knowing they had seen the Dow Jones average rise 20 points during their lunch hour...
...But that's a bit disingenuous...
...He needed to find bigger OTC stocks, like Microsoft and Apple Computer, and end his fixation on those unknown little gems he preferred...
...Not surprisingly, Fidelity Investments, which was in the process of becoming the nation's dominant mutual-fund company, was among the companies where this shift was the most apparent—to the delight of the marketers and the dismay of the fund managers...
...It was, in fact, one of those hot young fund managers who would soon come to personify this shift—whose fate as a Fidelity fund manager would seem, afterward, to mark the moment when the marketers had triumphed...
...There were short-term bond funds and long-term bond funds, and funds that combined bonds and stocks...
...There was no other place it could have come from...
...Stuka's fund was called Fidelity OTC Portfolio (OTC stands for Over the Counter, which encompasses the thousands of stocks not listed on either the New York or American stock exchanges), and he was 29 when he got his big chance, at the tail end of 1984...
...Plainly, this was not the cognoscenti's bull market, the way it had been in the 1950s...
...There were funds that only accepted IRA money...
...Request denied...
...But this was not one of those times...
...And yet here we stand today, with more than 5,000 mutual funds being marketed as fund companies and magazines covering the funds clamor for our attention...
...Fund companies were doubling and tripling their advertising budgets...
...With trading volume on the New York Stock Exchange closing in on 180 million shares a day—nearly double what it had been at the beginning of the bull market—commission income stood at record levels...
...If you were a Fidelity portfolio manager who had had a hot quarter or six months, you could pretty well be assured that the marketers would gun your fund...
...It came from the "sudden participation" of the middle class...
...if anything, they became more pronounced, especially once the bull market began in August 1982...
...Peter Lynch likes to recall that by the early part of 1987, whenever he went to a cocktail party, he would be surrounded by people wanting to talk about the market...
...Gunning the fund might include fiddling with the load, and it would always include increasing the fund's advertising budget, as ads touting the fund's wonderful recent performance would begin to appear regularly in The New York Times, The Wall Street Journal, and other newspapers and magazines...
...And what if a fund manager became uncomfortable with the way his fund was being promoted...
...There were balanced funds and overseas funds, sector funds and convertible securities funds, aggressive funds and conservative funds, funds that stressed undervalued stocks and funds that stressed contrarian ideas...
...A look inside the high-pressure culture of Middle America's most popular investment BY JOSEPH NOCERA Once, not so very long ago, it was all so simple...
...But instead of asking his advice on stocks, they would offer theirs...
...This was an extremely appealing message to a great many people, to say the least, and it reaped him an enormous amount of publicity...
...So instead he left...
...Issuance of new stock was rampant...
...by October $81 million...
...There were no brakes on this expansion, no words of caution from company elders...
...Each evening, network anchormen announced the latest rise in the Dow Jones average—a piece of news they'd reported sporadically before, if at all...
...Where in the world did the Times think this money came from...
...Besides, the manager added happily, "We're not going to have a bear market...
...But when the OTC market began rising, Stuka's new fund began rising even faster, and the decision was made to open the fund to the public...
...if things worked out the way they were supposed to, the fund manager would have an advertisable track record very soon after he began taking money from the public...
...After all, cash holdings dragged down yield and hurt the marketing department's chance of peddling the fund...
...Employment in the securities industry went from 1.7 million to 2.3 million in four years...
...It's obvious now—and it should have been obvious at the time—that the first eight months of 1987 marked the final, frenzied run-up that always comes before the awful fall...
...Why did you sell only a portion of that position...
...What happened in the summer of 1987 was that everybody stopped worrying—sophisticated investors as well as rank novices, Wall Street as well as Main Street...
...Instantly, the press descended...
...Indeed, one key reason Fidelity created the OTC Portfolio was that the firm's executives believed (correctly) that over-the-counter stocks were nearing the bottom, and would soon start rising...
...many of these Main Street speculators made money...
...What if he thought his fund was attracting more assets than he could profitably invest...
...And not long after that, he was gone...
...by December $162 million...
...Later, too, The Wall Street Journal would recount how Stuka had felt pushed into some bad choices, particularly in high-technology stocks...
...It was an appetite Fidelity did a great deal to whet...
...American financial life is infinitely more complicated than it used to be—and riskier in every way...
...It was "house money"—seed capital supplied by Fidelity...
...the Fidelity modus operandi during the 1980s was to keep a new fund under wraps for a short time, and observe how the fund manager did with the pocket change he had been handed without the whole world watching...
...They started Stuka off with $100,000...
...How could they be heardl And as this need became more pronounced, it led to the next subtle evolution of the mutual fund industry...
...There were income funds that allowed junk bonds in the portfolio, and income funds that didn't...
...The covers of nine of the first 11 issues in 1987 promised sure-fire strategies for making money in the market...
...bull market T-shirts, bull market games, bull market songs...
...And as for the "sudden participation by small investors," all one had to do to see that was spend a little time listening to the phone calls pouring into places like Fidelity, as people who barely knew the difference between a stock and a bond began throwing their savings into the market...
...By 1987, the bull market had spread well beyond the pages of Barron's and The Wall Street Journal and had leeched into the larger culture...
...He had been able to handle the inflow of money during 1985, but he became less and less comfortable as 1986 unfolded, and the fund began adding more assets in a month than it had gained its entire first year...
...Which they could then sell to the public as a top performing mutual fund...
...Their number had tripled in a decade, and would nearly triple again before the 1980s were over, by which time there would be more mutual funds than there were stocks on the New York Stock Exchange...
...The middle class was not only aware of this bull market, it was part of it...
...So goes one of the great truisms of the stock market...
...such decisions were a key component of mutual fund marketing...
...USA Today and The New York Times probed his feelings about the market...
...Now, the Fidelity marketing forces wanted a track record it could promote right away...
...At the same time, Stuka's performance dropped substantially, which Stuka later attributed to his large cash position...
...it wasn't willing to wait years while a new fund manager worked out the kinks...
...at one point 16 percent of the fund was in cash, which was practically a punishable offense at Fidelity...
...During the same period, a handful of new investment gurus emerged...
...But this was unthinkable at Fidelity during the bull market...
...But the bull market had also found its way into other, less likely Time, Inc., publications, such as People magazine, which ran one article on a formerly obscure money manager named Martin Zweig, and another, a few months later, about a summer camp devoted to teaching preteens about the stock market...
...Money magazine described his "tousled hair and puckish grin...
...When, late in the summer of 1987, a veteran Merrill Lynch broker went to his supervisor to suggest that the firm begin holding seminars on how to protect clients in the bear market that was sure to come, he got nowhere...
...The market is going to 3,600...
...It would be too damaging to the morale of all the new brokers, the supervisor replied, who were working the bull market for all it was worth...
...Experts say the traditional signs of a dying bull market have not yet appeared: excessive optimism, heavy issuance of new stock, and sudden participation by small investors who normally do not buy stocks...
...It didn't seem to matter...
...So he gained followers...
...There were also days when the market went down, of course, sometimes by as much as 40 or 50 points, but those days were the equivalent of hitting an air-pocket—momentarily scaiy and instandy reversed...
...They used to come down hard on fund managers who held too much of the fund's assets in cash," recalls a former Fidelity hand...
...And then it really took off, quadrupling in size over the next six months, until it held close to $1 billion...
...OTC Portfolio was not open to the public, not right away...
...There had been just such a run-up before the crash of 1929, too, and it had been marked by the same kind of euphoria, the same forgetfulness that bull markets always end and bear markets always follow, the same complacency, the same willful suspension of disbelief...
...It was as if Wall Street believed, right along with its customers, that the bull market would never end, that they'd all get rich and that everyone would live happily ever after...
...Their new prominence also seemed to suggest that things were getting out of hand...
...Half a year later, by which time he had turned 30, OTC Portfolio was up 51 percent, the second-best six-month return of any fund...
...Are interest rates poised to rise or drop...
...Stuka didn't name names, but he didn't have to...
...That was the moment when many people felt they had to become investors rather than simply savers...
...One can trace this quantum change back to the days of roaring inflation in the late seventies—when interest rates were skyrocketing, 30-year fixed mortgages became relics of a bygone era, and people were desperate to find ways to keep pace with the cost of living...
...You just pick it up from the feel of the place...
...Business Week photographed him leaning casually against a wall, eating a fruit cup...
...It's not hard to understand the appeal of mutual funds...
...The "Stock Doc," he called himself...
...He couldn't find enough of his favorite small stocks to invest the assets that were pouring in...
...He knew what he was asking: "There's no overt statement at Fidelity that the funds have to keep growing and the ads have to keep running," he says...
...For that, one had to look toward Main Street as well as Wall Street...
...There was an appetite for products [like OTC Portfolio and Overseas]," says Fidelity's current head of marketing, Roger Servison...
...The young man's name was Paul Stuka, and he was among the seemingly endless supply of young fund managers who were spawned in the Fidelity hothouse of the mid-1980s...
...In that same article, the Times reported that stock and bond funds—"the primary investment vehicle of small investors," the paper called them—had seen their combined assets grow from $53.7 billion to $430 billion since 1982...
...This, after all, was the era that glorified the conspicuously wealthy and made heroes out of corporate-takeover artists...
...Prechter believed in something called the Elliot Wave Theory, which, to put it bluntly, was virtually incomprehensible to anyone but him...
...Still, the rumors were often right...
...For better or worse, these are the sorts of questions that one hears all the time now...
...Then, once the fund was hot, the firm could slap on a two or three percent load, since most people didn't mind paying a small price to get into a hot fund...
...Each trade the new fund manager made was closely tracked, and every move he made examined...
...Gone were the days when a portfolio manager could toil in obscurity for a few years, gradually developing a suitable stock-picking style while laying a foundation that would lead to a decent performance record down the road...
...By July it had $55 million...
...In Rhode Island, a psychologist began advertising himself as the country's first "investor psychologist...
...Halfway through the bull market, this was becoming the critical question for the nation's mutual fund companies...
...Did it work...
...One could get the same feeling by looking at Money magazine, circa 19,87...
...For fund managers, there was now a great deal more pressure, and a great deal more scrutiny, than there had been in previous years...
...Does it need to be pointed out that Wall Street was every bit as euphoric as Main Street...
...Middle-class Americans did that in the middle of 1987...
...The smell of money was in the air...
...Stuka was among the portfolio managers who complained...
...What follows is the story behind part of that transformation...
...Between 1984 and 1986 Fidelity's customer base rose from 400,000 households to over one million, while the assets it managed grew from around $30 billion to close to $70 billion...
...When he left Fidelity, after a short, bittersweet tenure, to strike out on his own, he became (somewhat against his will) Exhibit A for those who believed that the company's soul now lay in marketing...
...Bear Necessity But it wasn't going to 3,600, at least not then...
...Merrill Lynch moved into another new headquarters building, this one in the World Financial Center, with plans eventually to take over a second World Financial Center skyscraper...
...And if there is any single financial product that exemplifies this shift, it is the mutual fund...
...That, says Lynch, is when he began to realize that things were veering a bit out of control...
...Article after article anointed this or that hot young fund manager as the new Peter Lynch, the legendary manager of Fidelity Magellan, the most successful mutual fund of the modem age...
...These were always the central ideas behind the funds—ultimately they were supposed to offer a simpler means of investing than scouting out stocks ourselves...
...More precisely, it's eight days into 1987, and the Dow Jones average, which has already risen almost 100 points since the year began, closes for the first time ever over the 2,000 point mark...
...There were formal meetings, during which the new fund manager was grilled by a handful of veterans: Why did you buy this stock...
...What was strange about Prechter's appeal w as not so much his message, but what it was based on...
...Rupert Murdoch, the publisher of downscale tabloid newspapers, began running contests revolving around the stock market...
...Fidelity spent around $100 million in advertising in 1986, and when a top Fidelity executive asked its top marketer at the time why the company had to have seven different ads every Sunday in The New York Times business section, the man replied simply, "Because they all work...
...Just as middle-class Americans had once talked about real estate at dinner parties, now they talked about the stock market...
...Over 40 million people had put an astonishing $2.1 trillion in mutual funds by the end of 1993—a trillion dollars of that coming in just the previous three years—and fund assets now actually exceed life insurance assets...
...If we lived in a world where momentous events were still signaled by the ringing of bells in the town square, that's what we would have heard that January day...
...The first meeting," recalls Stuka, "I got beat up pretty badly...
...Indeed they did...
...For even as the funds themselves were proliferating, so was the information one could find about them...
...He couldn't do it...
...Gunning the fund," they called it...
...Other fund companies might close a fund to the public if it got too big...
...Later, Rodger Lawson, who headed Fidelity's marketing efforts at the time, would claim that there were times when Fidelity did stop advertising a fund, at least temporarily, at the request of a fund manager...
...But even after inflation faded in the early 1980s, the new behaviors stayed...
...How's the Japanese market doing...
...Choosing a mutual fund has become incredibly complicated, and has directly tied the fortunes of the middle class to all the profits—and the perils—of a volatile market...
...Yet watching the market rocket upward, mesmerizing though it was, was perhaps the least illuminating way to understand the effect it was having on America...
...For most of us who lack the time or the inclination to study the stock market, there is something Joseph Nocera is a contributing editor of The Washington Monthly and a columnist for GQ...
...It was a riveting thing to watch...
...How aggressive should I be with my retirement money...
...In general, if a Fidelity fund manager had such complaints, he was out of luck...
...The diversification of stocks in the funds would reduce risks (though of course the risks are scarcely eliminated), and the small army of stock researchers at the fund companies would help the fund managers make money with our assets...
...That was April 1985...
...What if he wanted the marketers to turn down the throttle, or shut the fund to new investors...
...Looking back," he said, "you'd have been better off just throwing money at the market—and I wasn't willing to do that...
...OTC Portfolio had that much money within four months...
...Twenty-eight million mutual fund accounts had been opened by 1984, and that number was rising every year...
...it was obvious who he felt had pushed him...
...And it certainly worked with Stuka's OTC Portfolio...
...If the histoiy of the markets tells us anything at all, it tells us that there is no surer sign that the end is near...
...Excessive optimism was everywhere...
...It seems more like two centuries ago, doesn't it...
...Fidelity quadrupled in size during the bull market...
...USA Today, a newspaper with a shrewd sense of middle-class concerns, heralded the bull market at every opportunity...
...The market climbs a wall of worry...
...Prechter was saying what people wanted to hear, at a time when they wanted to hear it...
...Probably the best-known of the new gurus was Robert Prechter, a 37-year-old market technician who lived in Gainesville, Georgia, and was proclaiming loudly that the Dow would top 3,600 before the bull market ended...
...Which of those 1,246 mutual funds would speak to them directly, cutting through the growing cacophony of conflicting information and advice...
...In the "old days," it took years for a new fund to gain substantial assets: Value Fund, started in 1980, didn't have $30 million until 1984...
...This article is adapted from his forthcoming book, A Piece of the Action: How the Middle Class Joined the Money Class, to be published in October by Simon & Schuster...
...Money was pouring in...
...they sometimes demanded that portfolio managers invest in a particular category of bond or security, even against the fund manager's better judgment—the better to pump up the fund's return...
...But how could middle-class investors know which fund to choose...
...they walked to a brokerage office on their lunch hour to watch the market go up...
...They wanted a new fund that would be positioned to rise right along with the OTC market...
...But that's exactly what had happened...
...There was irony in this, to be sure, for his status as a hot young thing was in no small part the result of the efforts of Fidelity's marketing staff...
...Perhaps not...
...Heady Days It's 1987 now...
...He began letting assets sit in money market funds...
...And the fund manager himself would be paraded before the press, whether he liked it or not, the better to acquaint the public with his luminous talent...
...A dozen different magazines published ratings of mutual funds...
...The Rookie Running a Hot New Fund," read the headline...
...By 1987, 55 million mutual fund accounts had been opened, holding more than $750 billion, while the number of people owning individual stocks was closing in on 40 million...
...Every time...
Vol. 26 • January 1994 • No. 10
