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Microsoft's woes strike mutual funds, pensions

Some of the largest U.S. institutional investors have seen their holdings in the software giant fall billions of dollars.

Think you were smart to sell your Microsoft shares before this year's sharp decline? What about the manager of your mutual or pension fund?

Fidelity Management--the largest of Microsoft's institutional investors--has watched its 193 million shares lose nearly $10 billion in value since the beginning of the year. Fidelity, which controls about 3.7 percent of outstanding Microsoft stock, isn't the only institutional investor to rack up massive paper losses.

Based on the most recent filings with the Securities and Exchange Commission, the 93.7 million Microsoft shares that Vanguard Group owned in December have dropped by about $4 billion. Barclays Bank has seen the value of its 146 million-share stake drop more than $7 billion.

Those figures represent the shares held by the fund family, not individual funds. The popular Fidelity Magellan fund, for example, held about 46 million Microsoft shares as of last September--about one-quarter of the total held by the Fidelity family of funds.

Microsoft is one of the most widely held stocks among institutional investors--a blue chip and new member of the Dow Jones industrial average that few thought would fall to such depths so quickly.

The company has been hammered by a one-two punch in recent weeks: It is fighting a landmark antitrust case with the government that could lead to a breakup of its business. In addition, Microsoft reported last week that sales to the corporate sector are slowing. Its most profitable products, notably Windows 2000, are targeted at the corporate market.

"Investors are very nervous about what could happen if the government splits this company up," said Debra McNeill, portfolio manager at the Fremont Growth Fund, a conservative, large-cap value fund that counts Microsoft in its top 10 holdings.

"Until the end of the week at least, we're treading cautiously," McNeill said. "We haven't heard a single analyst on Wall Street pounding the table saying it's a screaming buy."

Microsoft shares sank $12.31 yesterday to close at $66.63--their lowest level since late 1998. They rebounded slightly today to about $68 but are still down about 42 percent since the beginning of the year, when they traded at $117.

The plunge has wreaked havoc on institutional portfolios. According to rating service Morningstar, 1,022 separate mutual funds own a piece of Microsoft. New York-based Carson Group estimates that one-third of U.S. stock funds own a stake in the company, adding up to 842 million shares.

Fund managers at the largest institutional investors--including Fidelity, Janus, Vanguard, Putnam and numerous state pension funds--refused to discuss their outlooks on Microsoft. Several said privately that they are disappointed with the performance of the shares but are taking a wait-and-see approach.

Of course, whether the managers of large portfolios actually record any losses on their holdings depends on when they bought the shares and whether they have sold any. In most cases, institutional investors have little option but to hold onto Microsoft. Unlike individual investors, who can get out of losing stocks relatively quickly, large money managers face certain obstacles when attempting a quick bailout, including large tax hits they may have to pass on to individual fund investors.

Fidelity, for example, the nation's largest institutional investor, would likely spark a panic if it started a massive sell-off, said Melissa Eisenstat, of New York-based CIBC World Markets. A disclosure from a Fidelity fund manager that the stock was not worth holding would drive down the price and possibly drag other technology stocks down with it, she said.

see special coverage: The verdict is in "Everyone is watching them, and they're in a bad position," Eisenstat said of Fidelity. "They don't have many choices but to treat this as a buy-and-hold situation. If you have patience, it's not a bad stock."

Christopher Galvin, an analyst at Chase H&Q in San Francisco, recommends that institutional investors buy Microsoft shares. Galvin said that yesterday's drop is likely the low point for the world's largest software provider--a price that reflects a worst-case scenario.

"The worst of all possible conclusions has now been factored in," Galvin said, referring to reports of an eventual breakup. "Microsoft has a great industry position, and it's in front of new product cycles. We're not walking away, and other investors shouldn't, either."

Fred Sears, chief investment officer at Lynnfield, Mass.-based Investors Capital and portfolio manager of the conservative Capital 20 Fund, is equally bullish.

He sold most of the Capital 20 Fund's Microsoft holdings but began buying them back yesterday for an average price of $66.50 per share. Microsoft is likely to reappear in the fund's top 10 list later this week if the price remains at or below $68, Sears said.

"I have a rule: When there's a legal overhang, I don't buy stock. But I violate it once in a while," he said. "Microsoft is so strong, and I'm a fan of (chairman Bill) Gates and his willingness to take on the government. I don't think long term it will be broken up. I'm going to continue to add."