Shares of Enron Corp. (NYSE: ENE - Quotes, News, Boards) were smacked around 
again yesterday, following close on the heels of seven-session decline that 
sent the stock down more than 13 points, or 16%, from its recent high of 
$84.63 (December 28), all amid uncertainty and considerable volatility. 
The pullback doesn't appear to be company-specific exactly, although the 
rumblings in a certain geographic region, namely California, are triggering 
aftershocks
 throughout the U.S. energy community. 

As we outlined in a report on January 4, the energy situation in California 
has rapidly reached crisis proportions. Strict environmental legislation and 
the uncertain 
profit potential post-deregulation has kept utilities from installing 
sufficient generating capacity in the state over the last 10 years. 

The state's two major utilities, PG&E Corp. (NYSE: PCG - Quotes, News, 
Boards) and Edison International (NYSE: EIX - Quotes, News, Boards) , are 
facing the
 prospect of eventual insolvency due to the spiraling costs of electricity 
purchased on the open market. However, the rates the utilities can charge 
their customers
 for power represent a fraction of the costs that prevailed during the 
gradual rollout of full-scale deregulation. 

The risks to Enron are two-fold. 

For one, the crisis in California may result in a default of payments to the 
state's major wholesale energy providers, including Enron. Although the 
company does
 operate in California, the bottom-line impact would likely be shielded to a 
considerable degree because of Enron's size, strength, and diversified global 
revenue
 streams. In addition, Enron would likely be high on the list of default 
payees given its importance to future wholesale energy supplies in the 
region. 

More significantly, investors are concerned that California legislators may 
pull the plug on deregulation entirely, or at least until the current crisis 
abates. Some also
 fear this mess might derail utility deregulation in other states as 
regulators and politicians alike become fearful of adverse and unintended 
economic consequences. 

Neither scenario is probable. For one thing, the airline industry was 
deregulated in fits and starts, with plenty of mistakes and recrimination 
along the way. And a 
strong argument can be made that the shortage of electric power would have 
pressured rates sharply higher even in a fully regulated environment. 

The California Public Utility Commission will attempt to decide the best 
course of action this week. It appears inevitable that, regardless of PG&E 
and Edison's
 ultimate fate, the state's energy consumers will likely absorb much of the 
burden through an increase in the prevailing rate cap. 

Enron has also fallen victim to the rotation out of strong defensive stocks 
on the heels of the Federal Reserve's unexpected interest-rate cuts last 
week. The initial
 euphoria has waned, however, upon the realization that the sharp rate cuts 
will serve to offset what appears to be a rapid rate of erosion in domestic 
economic
 growth, rather than generating a rebound in economic activity. As a result, 
we expect investors once again to seek the shelter of well-capitalized 
defensive plays
 like Enron. 

We would emphasize that several factors that weigh in Enron's favor have been 
overlooked amid the California crisis. The November-December period was
 18% colder than normal and the second-coldest start to the winter months in 
the past 50 years. Coupled with an uncertain supply situation, particularly 
in natural 
gas, Enron stands to profit handsomely from energy volatility and pricing, an 
environment that is likely to exist for at least the next 12 months. 

In addition, Enron's diversification into still more new avenues of growth 
help to insulate the company from additional challenges of this sort in the 
future. The 
markets for EnronOnline, a real-time commodities exchange vehicle, and 
Enron's broadband services unit are expected to at least triple over the next 
year.
An eventual inflection point in the groups' profitability would serve to send 
profits measurably higher in the long term. 

Despite the recent turmoil, Enron's consensus earnings estimate for 2001, 
according to First Call, has come down a mere penny, to $1.65 a share. 
Although the 
stock's rich price/earnings multiple of 43 times may aggravate its near-term 
volatility, the absence of a complete collapse of the stock indicates the 
market 
approves of Enron's maneuvers so far and is confident in its prospects going 
forward