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In Enron's Aftermath, Investors Rethink Strategy

For Fund Managers, It's a New Bull Market in Skepticism


The collapse of Enron Corp., which caught even many heavyweight professional money managers by surprise and cost them billions, has exposed the shortcomings of Wall Street's supposedly sophisticated "buy side," critics say.

"You would think that the mutual fund portfolio managers being directly affected by this apparent fraud would be in the lead screaming for reform" in accounting and other areas, said Mercer Bullard, founder of Fund Democracy, a Chevy Chase, Md.-based company that calls itself an advocate for investors.

"The reason they're not is that they're probably embarrassed, because active management failed to detect something that seems so obvious now. It's a slap in the face to active management," Bullard said.

Many mutual funds, pension plans and other institutions invested in Enron alongside the company's workers and retirees and other small investors who in some cases saw their savings decimated.

In the fourth quarter of 2000, when Enron shares were near their peak, purchasers of the stock included the Alliance Premier Growth fund, which bought 3.2 million shares; AXP New Dimensions, which bought 2.4 million shares; and Vanguard U.S. Growth, which bought 1.6 million, according to mutual fund tracker Morningstar Inc. Prominent funds that listed Enron among their top 10 holdings at year-end 2000 included the Janus Fund, Janus Mercury and Janus Growth & Income.

Even at midyear 2001, when the stock already was in decline, many funds still held big chunks of Enron. AIM Global Infrastructure, for example, had 6.9% of its assets in Enron as of June 30, according to Morningstar; Turner New Energy & Power Technology had 6.2%; and Stein Roe Focus had 4.8%.

The presence of so many big names reveals the level of groupthink about the stock, and the general lack of original research in the fund business, critics say. In the wake of the dot-com bust of 2000, professional money managers should have exhibited more skepticism about a highflier such as Enron, some say.

Though numerous fund companies were hurt by Enron's plunge last year, some commentators have skewered Janus Capital Corp. in particular, noting that the firm's long-running advertising campaign highlights its in-depth stock research.

"Janus pretends to know more, to dig deeper. At least that's the line the marketing department uses. But it doesn't seem like it would have taken a whole lot of sleuthing to have known Enron wasn't all it was cracked up to be," said Jonas Max Ferris, editor of, a Web site that covers the fund industry.

Critics of the fund industry say numerous red flags were ignored before Enron tumbled into bankruptcy, including a proxy statement released in March 2000 showing that Enron's chief financial officer stood to gain from the company's array of offshore partnerships, and a Fortune magazine article in March 2001 questioning Enron's "opaque accounting and dubious rationalizations" for its generous stock valuation.

"It drives me nuts that people say they didn't know Enron had problems," said Sean Reidy, co-manager of the Olstein Financial Alert Fund in Purchase, N.Y., a stock fund known for its research and for its contrarian approach to investing.

In addition to the proxy statement indicating the CFO "may have had somewhat of a divided interest," Enron had a rising debt load, negative cash flow and a "belligerent" attitude when questions were raised in conference calls with investors, Reidy said. "There wasn't a smoking gun," he said. "But there were just too many question marks, too many red flags."

Perhaps the most worrisome sign was that Enron was a business few, if any, investors could make sense of, Reidy said.

"I had neither the expertise nor the time to put into understanding what the company does. All I know is it's not something I wanted to be investing in."

Bruce Veaco, a portfolio manager of the Beverly Hills-based Clipper Fund, said his firm felt the same way. "We could never get our arms around the company," Veaco said. "We couldn't grasp how they were making money, and we try to be like Warren Buffett: We won't invest in something we don't understand."

Russ Kinnel, Morningstar's director of fund analysis in Chicago, said it's reasonable to ask why other fund managers didn't follow the same instinct.

"The most galling thing is that here was a company putting out a blizzard of confusing news and not going anywhere near full disclosure, but these supposedly sophisticated fund managers were investing anyway," Kinnel said. "The thing is, you don't have to buy the stock, especially if you can't put a firm value on the company."

Many Enron shareholders were simply playing the momentum game, say money managers who never fancied the stock: As long as it was hot, nobody seemed to bother to ask questions. That strategy worked like a charm in 1999 and 2000, when the stock tripled in two years.

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