How a Lone Trader Roiled Energy Market

From a sun-splashed oceanfront apartment in Long Beach, a natural gas trader named Mary Kathleen Zanaboni authored what federal regulators say was a pivotal chapter in California’s energy crisis.

With a fast computer, three telephone lines, a television tuned to weather reports and a steady supply of coffee, Zanaboni bought and sold natural gas swiftly and aggressively. Regulators call it “churning” and contend that she single-handedly cost households and businesses nearly $3 billion in the winter of 2000-01.

The recently concluded federal investigation into the power meltdown found that her furious trading helped fuel the record spike in prices that winter -- and that from her quiet perch on the beach she outfoxed her counterparts at then-mighty Enron Corp., reputed to be the shrewdest of market players.

Federal Energy Regulatory Commission staffers nicknamed Zanaboni the “bunny slipper lady,” because they envisioned her moving the region’s markets in the early morning while sitting at her home computer in a robe and slippers. A rival trader at Enron, baffled by the enormous quantities she traded, called her something else: “a crazy woman.”

Zanaboni isn’t identified by name in FERC’s March 26 report, which said that her employer, Reliant Resources Inc. of Houston, “often bought and sold many times its needs in quick bursts” and that its high-velocity buy-and-sell transactions, or churning, “significantly increased” the price of natural gas in California.

The report continued: “In our review of trading records, it became clear that a single Reliant trader was responsible for all of Reliant’s churning and almost all of its SoCal trading.”

Hundreds of pages of trading records, depositions and sworn statements generated by the FERC probe and other federal cases showed that Zanaboni was that hotshot trader. Zanaboni also was named, along with Reliant, in a class-action suit filed in Los Angeles County Superior Court on Wednesday seeking damages for Californians who paid inflated energy prices.

Regulators say Zanaboni broke no laws, but regulators concluded that her churning contributed to the sky-high costs that crippled the state’s two largest electricity utilities and contributed to rolling blackouts in early 2001.

Zanaboni, 43, works from her apartment on the beach in the affluent Belmont Shore neighborhood, separated from the sand by a weathered boardwalk and a low wooden fence.

One recent workday afternoon, Zanaboni answered her door wearing sweat clothes. Running shoes were drying on the porch. She politely declined to answer questions and referred a reporter to Reliant, which has denied wrongdoing.

According to federal regulators, each weekday morning, just as the sun was rising, Zanaboni’s task was to round up millions of dollars in natural gas to feed five Reliant power plants in Southern California and the Los Angeles Department of Water and Power, with which Reliant had a fuel contract.

With pleasant views of sand and surf, Zanaboni would trade feverishly for nearly 90 minutes on the computer and by phone. First she would go on a buying spree. Traders from other companies, seeing the flurry of activity on their computer screens, would dive in and begin buying too, pushing prices higher, unaware that most of the buying was by a single person.

Then she would sell quickly to take advantage of the price spike she had just caused, regulators said.

Investigators don’t blame any single trader for the entire rise in natural gas prices, which shot from about $20 per million British thermal units in early December 2000 to a record $68 on Dec. 11. (A typical California home uses 1 million BTUs of gas in five or six days.)

But FERC said the Reliant employee’s behavior was singularly responsible for a large chunk of that increase: The report said trading activities by Reliant alone pushed up prices by an average of $8.54 per million BTU in December 2000 and by an average of $1.91 per million BTU between November 2000 and June 2001.

And that, FERC economists figured, added about $1.15 billion to natural gas costs and $1.6 billion to electricity costs for California households and businesses that winter.

Reliant profited, the FERC report said: It sold natural gas “at or near the price climb it caused” and ultimately paid less than many other buyers for the fuel it needed the next day. In December 2000, Reliant generated $5 million in profit from natural gas trading.

In addition, Reliant’s churning created more than $18 million in profit in an eight-month period of 2000-01 from the company’s trading of financial instruments, known as derivatives, that are tied to gas, FERC said. The higher gas prices also allowed Reliant to charge more for electricity; most electricity plants in California are fueled by natural gas.

During a deposition taken by FERC investigators in September, Zanaboni said her aim was to buy at the lowest price possible to keep the power turbines spinning during a time of high demand. The trader said she also had to be careful to avoid hefty penalties assessed by Sempra Energy unit Southern California Gas Co. on customers using its pipelines that incorrectly estimated their capacity needs.

Zanaboni’s primary trading partner was Enron’s largely unregulated Internet brokerage, Enron Online. It wasn’t just a trading vehicle but a so-called market maker -- willing to be the buyer for every seller and the seller to every buyer on the electronic system.

That vaulted Houston-based Enron to the top of the list of major energy traders worldwide before its collapse into Chapter 11 bankruptcy in 2001.

In its report, FERC said the Reliant trader created prices that were not “the result of competitive conditions” through her rapid-fire trading -- sometimes at a pace of one trade every three or four seconds.

This pattern may have been exacerbated by an unusual billing arrangement that Zanaboni hammered out. It allowed Reliant to lock in profit from sales made on the Enron Online system even though it owed money to Enron for purchases. So Reliant had an incentive to churn, the report said.

Behind a Record High

Here’s how FERC said the system worked Dec. 11, 2000, when natural gas prices hit the $68 record at Topock, Ariz., the hub for a major pipeline to Southern California:

The Reliant trader bought and sold in four big bursts beginning just after 6 a.m. and finishing at 7:11 a.m. With each explosion of purchasing, the price moved up sharply. And with each flurry of sell orders, the price fell -- although not as far as it had just risen.

When the day’s trading was done, Reliant paid $51.24 per million BTU for a total of 246 billion BTU to be delivered Dec. 12, the report said. The price was well below the average paid by other purchasers on Enron Online that day and was much lower than the average of $59.42 published in the daily index by Gas Daily, a trade publication.

Enron appears to have been on the losing end that day. FERC found that Enron paid $72.15 on average for its purchases, more than the highest trading price posted on its online arm.

Zanaboni, who holds a bachelor’s degree in economics and an MBA from UCLA, said in her deposition that she devised her system of staccato trading to keep Enron and other partners guessing as to how much gas she needed to improve her negotiating position.

The technique apparently worked, judging from a deposition by an Enron gas trader named Keith Holst, the one who referred to the Reliant trader as “a crazy woman” because of what he said was her practice of “buying and selling and buying and selling” huge amounts.

“Because this was such an unusual pattern that we had never seen before, we just had conversations around the desk trying to understand what they were trying to achieve, and we were unable to resolve that,” Holst told investigators from FERC and the Commodity Futures Trading Commission in July.

Reliant, in documents filed with the FERC, said the company needed to buy large amounts of natural gas each day on the spot wholesale market to supply its power plants. At the same time, Reliant wanted to avoid large penalties from Southern California Gas for underestimating its need for pipeline and storage capacity. The penalties were assessed even for circumstances beyond Reliant’s control.

As a result, Reliant said, Zanaboni would buy more gas than needed just in case some of her purchases never arrived.

Timing also complicated matters. The gas utility required the estimate of next-day gas needs at 9 a.m. daily, at least an hour before traders were certain how much power their plants would generate the next day.

In a conference call with analysts and investors April 1, Reliant’s then-chief executive, Steve Letbetter, who resigned Monday, pointed out that “as a substantial gas consumer, higher prices do not benefit Reliant.”

A Reliant spokesman declined to discuss Zanaboni’s actions. Zanaboni, in a statement to FERC, said neither she nor Reliant had an arrangement with Enron to raise gas prices and that she received no personal benefit from her trading on Enron Online.

Veteran of the Trade

Zanaboni said her work has always involved energy trading, first at Tosco Corp., which now is a part of ConocoPhillips, and later at Merrill Lynch & Co., the New York Mercantile Exchange and Edison International utility unit Southern California Edison.

She joined Reliant when, on the eve of the 1998 deregulation of California’s electricity business, Reliant bought five power plants from Edison. Zanaboni gave up trading in June 2001, because Reliant was consolidating trading in Houston and she didn’t want to move. Zanaboni told investigators that she now handles California regulatory issues for Reliant.

In her deposition, Zanaboni described for investigators a work routine that was fairly autonomous. She attended daily trading meetings only when she made a regular monthly visit to Houston and did not share the details of her actions with Reliant’s financial traders.

“I don’t think they would understand it,” she said.

One investigator, laboring to understand her deal making, presented a hypothetical example in which Zanaboni would buy for $10 and sell for $5. The trader told the investigator she would not be selling gas for less than she paid for it: “Mine would be at $15, by the way, not $5.”

At one point, Zanaboni appeared exasperated by the investigators’ plodding questions and seeming confusion over how natural gas trading worked in Southern California.

“Am I the first trader you guys have talked to?” she asked.

“You’re the first trader some of us have talked to,” said Don Gelinas, FERC’s lead investigator. “But you’re our favorite trader.”