BOSTON - Fidelity Investments Vice Chairman and COO Robert L. Reynolds has the Midas touch when it comes to the firm's 401(k) business, but can the No. 2 man at the country's No. 1 fund firm duplicate his success?
The fund giant, which is stumbling like the rest of the industry, is attempting to diversify its businesses and explode its international asset base to equal the size of its state-side asset anchor. In an exclusive interview with Money Management Executive, Reynolds spoke about Fidelity's planned expansion, how the firm intends to capture the $11 trillion in Baby Boomer retirement wealth and why regulators are "unfairly" targeting the mutual fund industry.
Reynolds, who entered Fidelity on the separate accounts side and only later became exposed to mutual fund operations, said a lot of new businesses Fidelity is getting into are not market related, to create a buffer for volatility. With good reason, as Fidelity has seen its asset base drop dramatically and profits plunge since the bear market began.
Although the firm oversees custodied assets of $1.4 trillion - including managed assets of $799 billion for 18 million investors worldwide through more than 11,500 retirement plans and 5,500 financial intermediaries - times have been tough. Profits for 2002 were down 39% for the second year in a row. Since the top of the market, when Fidelity had more than $1 trillion under management, assets have declined 20%, whereas the industry has seen a 14% decline. However, Reynolds would rather compare Fidelity's current situation to before the bear market, in 1998, since which time the firm's profits are up 40%, he said.
Last year, the firm pared 5% of its workforce down to 29,000, after having cut 2% in 2001, with the biggest cuts coming in its brokerage division. And two weeks ago, Fidelity announced that for the second time in three years, employees earning more than $75,000 could expect no raise.
Fidelity is also losing ground to some of its foes. While the firm had the biggest market share of long-term assets in 1996 at 13.9%, well ahead of Vanguard's second-leading 8.6% market share, Vanguard has steadily been gaining on Fidelity since that time. Today, Vanguard is narrowly ahead with a 13.8% slice of the market, a hair in front of Fidelity's 13.4%.
And while Fidelity is the top dog in many business areas, don't think it doesn't keep an eye on the rearview mirror. The 57-year-old company is so enormous that it doesn't identify a single overall nemesis, but it does consider half a dozen firms to be competitors to its various divisions, Reynolds said. In the direct-sold, retail space, Fidelity considers its two strongest competitors to be Vanguard and T. Rowe Price, he said. In the discount broker space, Reynolds named Charles Schwab as Fidelity's greatest opponent. Among fund companies primarily sold through intermediaries, Fidelity's biggest contenders are American Funds, Putnam Investments and MFS. When it comes to benefits outsourcing, Hewitt is the greatest challenger, he said.
Expect to add a few more competitors to the list in the future as Fidelity is looking into becoming a bigger player in a number of other businesses.
Sitting in a small conference room in an eerily quiet part of Fidelity's understated Boston headquarters, Reynolds, a jovial and likeable man who livens his conversation with an occasional wink, turns serious when discussing his company's future. Fidelity will remain the premier mutual fund company in the nation, he said, through diversified revenue streams combined with more conservative, income-generating products to capture the $11 trillion in Baby Boomer retirement wealth. As a privately held firm with tremendous capital at its disposal, Fidelity, unlike its competitors, is in a unique position to invest in products and services that may not bring yields until years from now, Reynolds said. Attracting this wealth from the 78 million Baby Boomers who begin retiring in 2010 will be critical for Fidelity, as 65% of its managed assets are retirement savings.
"More and more of the wealth of this country is going to be in the hands of older people," Reynolds said. "I don't think it's going to exclude equities, because the life expectancy is 20 to 30 years beyond retirement, and that's a long-term horizon" that warrants an equity investment tolerance, he said. "But I do believe there will be a greater focus on instruments that can generate income."
As the man who largely built Fidelity's 401(k) business, having served as president of Fidelity Institutional Retirement Services Co. from 1989 to 1996, Reynolds has the experience to appeal to this aging retirement market.
But he does not foresee separately managed accounts as a big part of that growth, even though he started his career in SMAs at North Carolina National Bank (now Bank of America). Although SMAs may be hot now, they need to be proven over time, Reynolds said. "I think the verdict is still out," he said. Likewise, last month, Abigail Johnson, the chairman's daughter and president of Fidelity Management & Research, said that even with the popularity of hedge funds growing, Fidelity has no plans to offer any.
Instead of expressing concern that Fidelity's further push into custody and retirement planning and employee benefits, including health administration, might dilute the Fidelity Investments brand, Reynolds said diversification is necessary at this stage of the mutual fund industry, adding, "The heart of the organization will always be money management."
Last month, Fidelity departed from its typical strategy of organically growing businesses when it bought UBS PaineWebber's Correspondent Services Corp. The move put Fidelity among the top five clearing firms in the U.S., Reynolds noted at the time. However, research firm TowerGroup said the move only puts Fidelity in the top eight.
Diversification Drawbacks
Fidelity's new focus on unglamorous, unsung, back-office functions does not come without both internal and external risks, according to Eric Kobren, executive editor of Fidelity Insight, an independent newsletter out of Wellesley, Mass.
"Fidelity recognizes the retail mutual fund business is at overcapacity, and even though they are a market leader, it is hard to grow business," Kobren said.
But this metamorphosis could have its drawbacks, Kobren added. If Fidelity ceases to showcase money management stars on par with Peter Lynch, it could lose its cachet among investors. Diversification could continue to make it difficult for Fidelity to attract and retain money managers, who have been leaving Fidelity in droves to run hedge funds, he said.
Burton Greenwald , president of B.J. Greenwald Associates in Philadelphia, disagreed. Recordkeeping may have been the bane of other fund groups like American Century, which didn't have enough mass to be efficient, but Fidelity has the technology and size, Greenwald said.
As well, Ellyn McColgan, the new president of Fidelity Brokerage Services, said the firm is looking to attract more institutional customers. International growth will be a critical part of that diversification, Reynolds said. "We are very, very optimistic about the opportunity that international markets present to us, and I think the key thing is we are ideally positioned in the fastest-growing ones out there," Reynolds said. So fast, in fact, that Reynolds said he expects Fidelity's $120 billion in international assets to be on par with its U.S. stash within 10 years.
Reynolds asserted that Fidelity is better positioned than other money management firms that have attempted to build successful global businesses because of its resources and brand name. Just as Fidelity has become the largest fund company in the U.K., Germany and Japan, Reynolds fully expects his other worldwide division managers to achieve tantamount success.
Geoffrey Bobroff, president of Bobroff Consultants in East Greenwich, R.I., said that as the rest of the world moves to defined contribution types of retirement savings systems, like that of the U.S., it would present a real opportunity for Fidelity.
But he sees some limitations to Reynolds' various goals. "To say they are going to acquire $750 billion in the rest of the world is potentially unrealistic," because it is just too big of a goal, Bobroff said. "It is not a sine qua non that a giant in the U.S. can become a giant elsewhere," he added.
Reynolds spoke clearly and definitively, pulling no punches, when the topic of increased government regulation of the industry was broached. "I think the mutual fund industry has been a scapegoat for a lot that's happened in the marketplace," he said, noting its squeaky-clean image and heavily regulated history. "I think a lot of what you see now is political posturing that has no relevance to what's going on in the business."
Reynolds said he is totally against having a self-regulatory agency for the industry, as well. "To have a solution with no problem makes no sense. The mutual fund industry under the SEC has worked great under any measurement," he said.
However, recent talk of increased disclosure got Reynolds somewhat defensive. "I think that the fees in the mutual fund industry are fully disclosed," he opined. "In other words, the prospectus has the expense ratio of the fund." When asked if Fidelity would fight the SEC's new initiative to streamline shareholder reports, Reynolds said the firm has "never been against streamlining reports or transparency. I think our total motivation in any stance we ever take is what is in the best interests of the shareholders." And what's good for its shareholders is also beneficial to the company in the long run.
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