The Bear Argument
David Langford ([email protected])
I can't believe we're even discussing a utility. A utility! Just look at their track record. As the 1980s kicked off, utility stocks were 25% of the S&P 500. Now? Less than 7%. Energy stocks? As a percentage of their weight of the S&P, they've been cut in half over the same period.
Why is that? Because there are better sectors, better industries, and better companies to invest in, and lots of them. Technology has gone from 11% of the S&P 500 to 25% since Reagan was elected president the first time around. Financial services and healthcare? Both have gone roughly from 5% to 15%.
Guess what kind of companies are in the Rule Maker Portfolio? Looks pretty much like technology, healthcare, and financial services. Coincidence? See any utilities or energy companies in the Rule Breaker Portfolio? Let's look at the Drip Portfolio, then. Nope, no energy, no utilities, nowhere, no how. Hmmm.
Oh, but Enron's different. It's really a market maker in the business of energy, and branching out into pulp, paper, and metals. Care to take a guess how pulp, paper, and metal have done over the last 20 years? Anyone looked at U. S. Steel (NYSE: X) lately? It's embarrassing. I mean, that company used to be a Dow component, fer cryin' out loud.
But let's ignore Enron's energy business. I mean, sure, Enron is one of the world's largest natural gas and electricity concerns, and it's only 92% or so of its revenue-generating business, but what's that? Sure, Enron is likely to go back to trading like an energy company when people figure this stuff out, losing its lofty valuation and a whole boatload of shareholders' money at that time. But we'll just pretend none of that matters, and that the only thing that matters is Enron's exciting new direction: making markets.
Enron's role as a market maker is to facilitate more liquid trading, and that means a better price for everyone, not to mention offering products that reduce risk. Let's look at that a second. Enron benefits, like all market makers do, when there's lots of trading. This happens when people who would trade do so because they're feeling antsy (California comes to mind). Enron helps people feel less antsy by allowing them to manage their risk better.
So as Enron succeeds, it is needed less. This is not an expanding possibilities scenario, but a growth-until-it-levels-off scenario -- a cyclical industry within the cyclical energy industry.
Besides, what is it exactly about the market-making business that couldn't be Napstered out of existence? Why can't energy companies post their own going rates to a free board, or to no board at all, like Gnutella? When they realize they can, just as they are only now realizing that Enron offers much greater liquidity than they used to have on tap, they will. Liquidity is necessary, but Enron won't always be.
You don't need a broker or a market maker when the market consists mostly of only a few big players, a host of which don't like Enron's driver's-seat position in writing futures contracts. Sure, Enron may be making a larger, more-liquid options and futures market just as fast as it learns how, but once the market is established and everyone knows how to play the game, Enron won't be needed anymore.
Enron's only 20% of the U.S. energy market -- those other big players can force their way in, or band together to create an even more liquid market. As long as Enron's calling the shots and scooping up the market-maker money, the incentive is very much there to do so. Where's Enron's moat?
And forget the other energy guys, what about the financial ones? What could possibly keep experienced players like the Chicago Mercantile Exchange from barging in and taking over? The CME has the incentive to do so -- it's the first exchange to transform into a for-profit company, and is soon to be publicly traded. Making futures and options on futures is the CME's home turf, not some new thing it's reading up on, and the company sports some of the world's largest banks and investment houses as its members.
In 1999 alone $138 trillion moved through the CME. Enron? In the 14 months since the inception of EnronOnline, Enron has moved about $390 billion of business, according to a company spokesman. That makes EnronOnline almost 3% the size of the CME -- big enough that the CME might actually take notice. Woe to EnronOnline if it does.
There's also the teensy-weensy issue of how Enron is paying for its growth. Enron just issued another $1.25 billion in debt. Let's see, that's less than $0.7 billion in cash, and now more than $15 billion in debt. Ick. Well, that's one way to expand your business. Why isn't Enron using cash to expand? Maybe because it can't -- the latest net margin came in just below 1%. Double ick.
Maybe my Bull counterpart will point out what the good news is, because I haven't found much here to love.
A former swashbuckler and a one-time fussbudget for the FBI, David owns no shares of any energy or utility company, including Enron, nor does he ever plan to. You can see all of David's personal portfolio holdings under Favorite Stocks here. The Motley Fool is investors writing for investors.
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