Moody's downgrade of FMR shows $6.3B of unrated debt

Moody's downgrade of FMR Corp.'s debt rating reflects an unseen mountain of unrated debt the company has accumulated in recent years, according to the rating agency. The parent of Boston-based financial services giant Fidelity Investments has long-term financial liabilities of $8.4 billion, of which $6.3 billion is unrated debt that has stayed off Wall Street's radar screen, said Matthew Noll, vice president and senior credit officer of Moody's Investor Service. The unrated debt is held by Edward "Ned" Johnson III, chairman and chief executive of Fidelity, and family members, employees of the company and other unspecified lenders, Mr. Noll said. "They're a solid company, but they're a heavy user of debt," he said. "They're a big, big capital spender," Mr. Noll said. "I would even say they lavish themselves in capital spending."

TECHNOLOGY SPENDER

For instance, Fidelity is never shy about letting financial advisers know that it spends about $2 billion annually on technology.
Fidelity's debt level has grown to $8.4 billion in 2007, from $4.5 billion in 2005, an 87% increase. Nevertheless, Fidelity vows to keep on spending on technology, regardless of the downgrade, said Vin Laporchio, a spokesman for the company. "The Moody's release [of Jan. 11] has no impact on our business strategy or the service we deliver to our customers," he said. "We continued to invest large amounts of capital in 2007 to develop our business and we'll continue to do so in 2008." But Fidelity may have already altered its business strategy to reflect the downgrade by opening the Magellan Fund to new investors (see related story) just three days after Moody's criticized the lackluster inflows of Fidelity's fund business in its ratings report, analysts said. "It could well have been the trigger," said Burton Greenwald, a mutual fund analyst in Philadelphia. Fund inflows aside, Fidelity's under-the-radar debt was the unsung factor in Moody's Jan. 11 decision to lower its debt rating a notch to A1, from Aa3, for FMR debentures, Mr. Noll added. Moody's disclosed the $6.3 billion in unrated debt after being questioned on its rationale for downgrading the market leader. In a press release, only the $2.1 billion in rated debt was discussed. Jim Lowell, editor of the Fidelity Investor newsletter in Needham, Mass., was one of Moody's detractors. "I think Moody's has it wrong," he said. "Ned Johnson could just write a check for that amount. They are in a rock-solid position." But a deeper analysis of FMR suggests that this may not be true, Mr. Noll said. The $6.3 billion of unrated debt, largely obscured in discussions of Fidelity's move to downgrade the company, comprises obligations to employees and unrated obligations to other lenders, whom Mr. Noll declined to specify, though Mr. Johnson himself lent a "substantial" portion of that multibillion-dollar amount to his own firm. "The company [Fidelity] is not as strong as it used to be, but anyone who puts their money with Fidelity should have no worries," Mr. Noll added. Indeed, Fidelity still enjoys a debt ratings edge over what Moody's assigns to senior debt at San Francisco, Calif.-based Charles Schwab Corp. (A2), and Omaha, Neb.-based TD Ameritrade Holding Corp. (Ba1). Fidelity's A1 debt rating puts it on a par with Franklin Templeton Investments of San Mateo, Calif., and AllianceBernstein Holding LP of New York, both of which are A1-rated. But Fidelity is now three notches below London-based Barclays Bank PLC (Aa1). Fidelity had record revenue in 2007, and improvements to its harshly criticized fund business were overlooked in dropping the debt rating, Mr. Laporchio said. "It's one of the best years in our history, across the board," he said. For example, the percentage of Fidelity's actively managed domestic general-equity funds that outperformed their benchmarks for the one- and three-year periods ending Dec. 31, increased to 91% and 73% respectively, from 16% and 38% for the comparable periods a year earlier, Mr. Laporchio said in an e-mail. Indeed, Rodger Lawson, named president of FMR Corp. in July, has sparked a turnaround in the fund business — the world's largest, with $1.6 trillion in assets — that is not reflected in the Moody's report, said Mr. Lowell and Mr. Greenwald. Mr. Noll disagrees, arguing that the positive trend is reflected when Moody's raised its pronouncement on the company's trend from "negative" to "stable" because Fidelity is showing signs of getting its fund business back in gear. "It looks like it's going to stay there a while and not get worse," he added. But Fidelity is not concerned about short-term perceptions, Mr. Laporchio said. "As a private company, we can focus on long-term returns," he said. Brooke Southall can be reached at bsouthall at crain.com.