THE GIANT IS OUT IN FRONT, AT LEAST FOR NOW: CAN FIDELITY MAGELLAN SUSTAIN ITS HOT STREAK?

Fidelity Investment’s flagship Magellan Fund may be coming back, but don’t expect it to reclaim its former glory, say fund watchers.

Two years after taking the helm of the world’s largest mutual fund, Robert E. Stansky has made good on his promise to pull Magellan out of the doldrums. The $72-billion fund is running slightly ahead of the Standard & Poor’s 500 stock index this year and just ahead of it for the last 12 months.

That’s a remarkable feat for an obese fund that has lagged its benchmark for the past four years. While Magellan was closed to new investors in September, it is still open to existing institutional retirement plan clients. In fact, it is the single most widely-used option among U.S. 401(k) plans, according to InvestmentNews sister publication Pensions & Investments.

Says Robert C. Pozen, president and chief executive officer of Fidelity Management & Research Co., the adviser to the Fidelity funds: “Bob has done a fantastic job in really turning in great numbers and getting this fund back on its historic path.”

Mr. Stansky, who had run several growth funds at Fidelity, took the reins of Magellan in May 1996 after Jeffrey N. Vinik resigned in the wake of poor results, which stemmed largely from the fund being overweighted in bonds.

By carefully adding more growth-oriented and large-capitalization stocks to the portfolio, as well as paring down its bond position, Mr. Stansky has gradually restored investors’ confidence.

“I’d give him an A-plus for taking a disaster and turning it around on very short notice, especially when you consider the size of Magellan,” says William Dougherty, president of Kanon Bloch Carre, a Boston mutual fund consulting firm.

Taking advantage of its improving results at Magellan and other funds, Fidelity is embarking on a television, print and direct mail advertising campaign using former star Magellan manager Peter Lynch as its pitchman. Mr. Lynch ran the fund from 1977 to 1990.

But if Mr. Stansky, 41, has demonstrated that Magellan is able to keep pace with the S&P 500 — something 86% of actively managed equity funds have been unable to do in the year to date through June 2 — he has yet to prove he can sustain that record.

‘do you think I’m fat, dear?’

Forget about his chances of generating returns of more than twice the index — like Magellan did throughout the 1970s and 1980s and as recently as five years ago. Many observers say the fund’s enormous size will hamper its ability to build meaningful positions in fast-growing small companies, its focus during its heyday.

In fact, criticism about being too big to move about the market may have prompted officials to close Magellan to most new investors in September, though the stated reason was to slow fund growth as returns improved. “You’re not going to see Magellan outperform the S&P by a large margin,” says Jack Bowers, editor of Fidelity Monitor, an independent newsletter. “It’s a very large fund now. It looks more like the index.”

Even if it keeps pace with the S&P, Magellan and other actively managed funds still fall short of index funds due to far higher expenses. Even on a risk-adjusted basis, the case for active funds has not been compelling and Magellan is no exception.

Still, for many investors, matching the S&P appears to be enough. Over the 12 months ended March 31, Magellan’s 4.7 million shareholders slowed net redemptions to $1.9 billion from $9.5 billion the year before, according to the fund’s annual report — a sign that investors are beginning to approve of its performance.

“Investors have really tempered their expectations for Magellan,” says Peter Di Teresa, an analyst at Morningstar Inc., the Chicago-based fund tracker. “That may be because of the fact that many of them got burned and are now satisfied to see that the fund is at least competitive again.”

But advocates of passive investing argue for simply owning the index, through funds like the $61 billion Vanguard Index 500 Fund. Magellan’s investors pay $6.40 in annual expenses for every $1,000 invested, compared to the $1.90 that Vanguard Index 500 investors cough up. What’s more, most active managers have more risk than the market, as measured by the S&P 500. Vanguard Index 500 is 25% less risky than the average domestic equity fund, while Magellan is only 9% less risky, according to Morningstar.

a fund for all seasons

But there are some who maintain the new-and-improved Magellan is a lot more than an expensive index fund, Messrs. Lynch and Stansky chief among them.

At the end of March “near 25% of the fund’s holdings were not in the S&P 500,” said Mr. Stansky, during a recent briefing with reporters. “It would be pretty hard for me to claim I’m an index fund.”

If nothing else, Mr. Stansky has succeeded in making Magellan more predictable by avoiding Mr. Vinik’s propensity for making big sector bets such as technology. Beside reducing bond holdings –which made up nearly 19% of the fund two years ago — he moved from small- and mid-cap stocks to large-caps. He’s also trimmed the number of stocks by 10% to 477 and increased the fund’s exposure to the financial and health care sectors.

At the end of March, Magellan’s five largest holdings were General Electric Co., Microsoft Corp., Merck & Co. Inc., Citicorp and Cendant Corp.

“I don’t feel any pressure to pigeonhole Magellan into a certain type of fund, whether it’s a blue-chip or emerging-growth or deep-value situation,” Mr. Stansky says. “A capital appreciation fund can go anywhere, do anything, (be any) type of fund within the bounds of the prospectus.”

Despite the strides Mr. Stansky has taken in getting Magellan back on its feet, there are many who remain wary.

“Magellan will never be exceptional,” says Roy Komack, a fee-based planner at Komack Management Services Inc. in Natick, Mass., with about $20 million in discretionary assets under management. “A fund that has $70-some billion in assets has to behave something like the market unless the manager does something unwise, which is what happened to Magellan a few years ago.”