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In Case of Emergency . . .

. . . Vanguard Is Ready. The Mutual Fund Giant Takes Disaster Preparedness to Great Lengths, From Manning Its 'Hot Sites' to Deploying Its 'Swiss Army' of Phone-Duty Managers.


MALVERN, Pa. — Within hours after the stock market's 554-point plunge on Oct. 27, the red-and-white Swiss flag was hoisted above the headquarters campus of Vanguard Group, the mutual fund giant.

It was the signal mobilizing Vanguard's "Swiss Army"--a rapid-deployment force of 1,000 managers who can instantly be switched from their regular jobs to telephone duty when a market event creates a flood of calls.

Vanguard knew that the best way to stem panic was to ensure that customer calls would get through. Like other major fund groups, it had planned extensively for doomsday even while investors were enjoying a seemingly invincible bull market.

As events unfolded that final week in October, the feared rout never arrived, but the stakes today have never been higher for the nation's mutual fund industry and its 63 million customers.

Mutual fund assets now total $4.3 trillion and are held by 37% of U.S. households, according to the Investment Company Institute, a mutual fund trade group. This vast reservoir of savings--more than one-third of it held in retirement accounts--is considered as stable as any pool of money on Wall Street. Still, its sheer volume makes experts worry about the consequences should it ever start flowing rapidly in the wrong direction.

Nobody knows what might cause the dam to burst, but faced with a torrent of redemptions--cash-in demands--fund managers could be forced to dump stocks at any price, accelerating a downward spiral.

Although all fund groups have worked to shore up the gaps exposed by the infamous stock market crash of 1987, few take disaster preparedness to greater lengths--and few have been more open about their plans--than Vanguard.

'Constructive' Paranoia

On the night of Oct. 27, Vanguard Chairman and Chief Executive John J. Brennan rushed from Washington back to suburban Philadelphia to prepare for whatever might come the next morning.

Like Vanguard founder and Senior Chairman John C. Bogle, Brennan occasionally dons a phone headset with the rest of the "Swiss Army." (In choosing the name, Bogle was inspired by Switzerland's all-volunteer citizen army.)

To make room for the extra bodies needed on the phones, Vanguard also readied the "hot site"--an alternate work area for up to 300 people in the company's bunker-like data center five miles from headquarters.

Mutual fund holders were among the coolest heads in the market that week, refusing to sell out on Monday and buying enthusiastically on Tuesday to help fuel a 337-point rebound in the Dow Jones industrial average.

Despite a record 75,000 calls on Tuesday, Vanguard said it met its goal of limiting average "hold time" to 15 seconds.

Brennan, who "took a bunch of calls" that day, said he saw no sign of panic.

Yet he acknowledged in an interview that had stocks dropped again Tuesday and tripped another "circuit breaker" like the ones that twice halted trading on the New York Stock Exchange during Monday's plunge, the bull market that is still going today might have taken a far different turn.

With the Asian financial crisis apparently easing and the prospect of war with Iraq at least temporarily defused, the stock market is in another feel-good phase.

This is precisely when money managers like to paint worst-case scenarios. As Brennan put it: "We're always constructively paranoid."

Black Monday

The closest the mutual fund industry has come to catastrophe was the crash of Oct. 19, 1987, when the stock market lost 22% of its value in a single day. The crash triggered redemptions exceeding $10 billion, or 4.5% of all stock mutual fund assets at the time.

In surveying the damage afterward, the industry concluded that it hadn't exactly covered itself in glory. Among the problems on Black Monday:

* Phone systems were overwhelmed by the surge of calls, which pumped up the anxiety of the many investors who couldn't get through.

* Computers that processed stock transactions were swamped by huge trading volume. The electronic gridlock made it impossible for funds to post end-of-day prices, again leaving worried customers in the dark.

* Fund managers themselves were unable to get some trades executed because dealers in certain stocks were either too busy to respond or simply ignored calls.

"Sometimes panic occurs just because you can't get through," said John Markese, president of the American Assn. of Individual Investors, adding: " '87 woke everybody up."

Sheldon Jacobs, publisher of the No-Load Fund Investor monthly newsletter, thinks the likelihood of a panic may be exaggerated. "If we had an '87-type crash today, I don't think the redemptions would be as bad," he said.

On the other hand, there's no law that says investors will keep "buying on dips" and pulling the market back up when it drops. "One day, the market is going to go down 5%, 6%, 7%, and instead of snapping back the next day, it'll go down another X%," Jacobs said. "That'll be the end of that strategy!"

Defense Mechanisms

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