UC Fund Managers Were Asleep at the Enron Wheel

The University of California is suing Enron to recover the $145 million it lost investing in the company’s fallen stock. Methinks the lawyers got it wrong. Instead, folks like me--a UC professor and one of thousands of future pensioners--should be suing the university’s portfolio managers.

These “motley fools” apparently spent over a year riding a $90 stock all the way down toward 90 cents. This is a clear violation of the first three rules of modern investing: (1) cut your losses, (2) cut your losses and (3) cut your losses.

Maybe, with more than $50 billion of assets to track, UC’s portfolio managers simply weren’t paying attention when Enron began to circle around the Wall Street drain. More likely, these market un-wizards succumbed to the antiquated mind-set of traditional “buy and hold” investing.

In the buy-and-hold investor’s passive little world, the stock market is a “random walk” where stocks go up and down, but no one can predict the movements. So managers should buy stocks that broadly diversify one’s portfolio and hang on for the ride. The problem with this theory is that Enron’s meltdown was anything but random.

Any prudent portfolio manager watching the stock could have seen the early-warning signs months ago. Fully one-third of Enron’s business was in telecommunications--not energy. Like other telecom companies, Enron over- invested and wound up with a crushing debt when the sector collapsed.

Add huge cost overruns on some projects in India and you have a certain recipe for the stock’s long decline.

The coup de grace came when word leaked of alleged accounting improprieties--the focus of UC’s class-action suit. Yet this fraud came to light long after Enron had completed most of its collapse.

Which leads me back to the original point. The stock took more than a year to fall because, while UC’s portfolio managers were sleeping, most other large institutional investors were unloading Enron and cutting their losses.

There are some lessons here.

For individual investors, the stock market is very risky. To safely invest, buy broad-based index funds. If you pick stocks, have the discipline to sell any dog in your portfolio like Enron--or any one of a number of once high-flying tech stocks--that loses more than 8% to 10% of its value.

For President Bush, who will soon press Congress to privatize Social Security, there is this troubling question: If supposedly sophisticated portfolio managers like those at the University of California can lose so much money, is it really prudent to allow individuals to gamble their Social Security on individual stocks?

As for the courts, a jury will probably find Enron executives and some errant auditors from the Arthur Andersen accounting firm liable for actions worthy of a multibillion-dollar judgment.

Personally, I would rather see any judgment used to make whole all of the Enron employees--below the executive ranks--who lost their retirement savings.

Unlike the incompetent UC portfolio managers who could have sold their stock at any time and kept their losses small, these employees were forbidden to cash out.

At least they have an excuse.

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Peter Navarro, a business professor at UC Irvine, is the author of “If It’s Raining in Brazil, Buy Starbucks” (McGraw Hill, 2001).