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Thanks to a reliance on money funds, investment giant Federated Investors posts bullish results in bear of a market

Sunday, July 28, 2002

By Len Boselovic, Post-Gazette Staff Writer

Federated Investors President and Chief Executive Officer J. Christopher Donahue says he sleeps well, even in tough times, as a matter of necessity. It's something he learned as one of 13 children and the lesson was reinforced when he fathered eight children of his own. The lesson: Whether you're a child or a parent, you can't function properly without a good night's rest.

	J. Christopher Donahue, president and chief executive officer of Federated Investors, has seen the company post bullish results in this difficult bear market. He says,"We've tried to develop a franchise for all seasons." (Franka Bruns, Post-Gazette)

"If you couldn't sleep, you'd just get run out of gas," he says.

That ingrained belief -- not the fact that Federated has 76 percent of its assets in money market funds, 13 percent in bonds and just 11 percent in stocks -- is the reason Donahue isn't counting sheep these days.

But the composition of the Downtown investment firm's portfolio is helping Federated's stockholders sleep a lot easier.

The record second-quarter income of $52.6 million Federated reported last week was the latest in a succession of strong quarters that have buoyed the company's stock. Although it couldn't dodge the pounding most shares took this month, Federated stock is up 4.6 percent since Sept. 11. It's down 10.2 percent on the year, but Federated's shares have behaved better than the stocks of money managers who have much more exposure to the stock market.

"We've tried to develop a franchise for all seasons," Donahue says.

Federated manages more than 135 mutual funds that it sells directly to institutional investors and indirectly to retail investors through financial planners and brokers. The firm is the father of the money market mutual fund, essentially a juiced up, interest-bearing checking account that invests in short-term government debt, high-rated corporate paper or both. Consumers, corporations and institutional investors use money funds to put their short-term cash to work until it's needed.

Because of their relatively meager returns, money funds weren't very sexy when even blind pigs could earn 15 percent or more in the stock market. Federated's heavy emphasis on money market and bond funds made it look like a tortoise during the bull market.

But when stocks started tumbling and investors were unnerved by terrorist attacks and corporate scandals, knowing their money would still be there tomorrow became a lot more important to investors. More importantly, as profits fell, more companies wanted to be sure their spare cash was working as hard as it could.

All of a sudden, Federated's boring but safe money funds became the belles of the ball. At the end of June, Federated's money market assets were up 20 percent from year-ago levels while overall assets under management increased 15 percent. Despite the rapid growth, Donahue is convinced the money fund business still has a long way to go.

	Bearing up well The stock market's train wreck has done its share of damage to Federated Investors, but the company has fared better than most investment managers because of its reliance on conservative money market and bond funds. Here's a look at Federated's portfolio as of June 20. It includes assets in mutual funds the firm manages as swell as money in other accounts. ASSETS (in billions) June 30, 2002 Dec. 31, 2001 June 30, 2001 Equity $20.89 $22.6 $24.27 Fixed income 23.26 21.06 18.7 Money market 140.86 136.03 117.81 Total $185.01 $179.69 $160.77 Source: Federated Investors

"There are so many pots of cash that we haven't gotten into yet," he says.

One big target: state and municipal governments that have cash they can put to work. During the second quarter, Federated began managing a $13.2 billion pool of money for 1,700 municipal government units in Texas. The company won similar contracts in Illinois and Wisconsin. In Florida, Federated will be one of the managers for the money market option in the defined contribution retirement plan for state employees.

The trouble with money market funds is the fees Federated earns for managing and distributing them. They're only about a fourth of what Federated collects for managing equity funds. So even though 76 cents of every $1 Federated managed during the second quarter was in money funds, only 45 cents of every $1 it collected in revenue came from money market funds. As a result, second-quarter revenue increased only 2 percent to $182.4 million.

Federated has made several moves to beef up its equity portfolio, the most notable being last year's $400 million acquisition of The Kaufmann Fund, now the Federated Kaufmann Fund. The $4 billion fund was named the No. 1 multicap growth fund by Lipper last year and was Lipper's top performer in the same category for the 15-year period ended March 30.

Donahue says the fund is averaging sales of nearly $100 million a month, up 35 percent from the first quarter. That's a big reason why Federated's stock funds took in $396 million more in the first half than investors took out of those funds. However, the new money couldn't overcome stock market losses. Federated's assets in equity funds it manages stood at $19 billion June 30, down 15 percent from year-ago levels.

Selling funds to retail investors through financial planners and brokers is an advantage in a market such as today's, Donahue says. Dazed and confused investors are looking for guidance and getting it through counselors who develop a financial plan for them, help them build a diversified portfolio and make sure their clients dollar-cost average (invest the same amount at regular intervals, which lets investors buy more shares when prices are low and fewer shares when prices are high.)

"All three of these concepts are boring in a bull market," he says.

Moreover, the advisers can prevent individual investors from acting rashly when the market skids.

"It's a real good speed bump on the way out because you don't get a lot of panic sales," Donahue says.

Federated's other growth initiatives include teaming up with Nationwide Financial Services to offer a variable annuity product, a big market Donahue says has pretty much eluded Federated's grasp. He also wants to build the managed account business, which gives wealthy individuals access to customized portfolios and tax management strategies typically only available to institutional investors.

As he says, "We have a lot of good irons in the fire."