ENRON PERPLEXITY IN HIGHER DIMENSIONS

2/11/2002. A draft in process. A SYNOPSIS AND A CAUTION TO STUDY MATH Enron implemented, pretty much, modern derivatives trading on energy. As the natural gas industry was deregulating, Enron created a market trading it and the company divested from physical assets while extending its process of commodification to other things. It was aided when a big market for electricity, California, ran into deregulation problems. Spot prices got locked up, giving some rocket fuel to the Enron jet-way. Enron overdid its rise -- its hot-rod, new genius status went to its head. Before you knew it, it had thousands of limited partnerships for trading this and that future. A rocketing pool of coattail-riders joined its jet-way performance, allured with Enron's razzle-dazzle play to sponsor every source of influence or prestige it could. All a virtual set piece for sheer disaster. The boy-wonder CEO resigned rather smoothly and some other CEO with an older, wiser countenance stood in his spot. And so sorry Ken Lay was on call when the crazed mess exploded. As lucky as Enron seemed, its defenders plead unluckiness. Ill luck is not doled out in timely measure. Multiple contingencies converged for the Enron stock price collapse. A recession, a very large attack on the country, an accounting reappraisal of a billion or so, wonderment over Skilling's departure, soberiety over electronic commerce, an administration more alert than ever to perceptions over its alliances, executives growing wary, who should know the final nervous tipping point, the straw that was too much? One point from the mess emerges. No accounting, as accounting has been understood for two hundred years, would have sufficed. You need math, not balance sheets, in this world of new finance. In a market there is a flow of money representing the many transactions for goods and services to the mutual benefit of transactees. The balance sheet provides a snapshot look at this flow. One assesses matters of the flow to assess the entity's financial health. This requires that a second dimension is involved in the economic appraisal. But derivatives do not trade off the flow of monies of the underlying assets. Derivatives trade off volatilities in the flows; that is, a third order dimension from the market good itself. To read a "balance sheet" that included a real picture of an entity's financial health, one would need to understand more than accounting addition and subtraction and understand more than addition and subtraction over time. Ultimately, one has to get to second-order differential equations. The point is -- unless those delivering verdicts on Mr. Lay have sat down and done elaborate derivatives for Enron's last ill-advised six major transactions, one has no more the evidence than a jury who can convict in hit and run cases but cannot calculate the rates of acceleration or deceleration in an accident report. Caveat emptor, but there can be no such in a country where most high school kids don't get their calculus when the global financial system has been running on nuances of the calculus since the 1973 advent of the Black-Scholes equation. Feel in your gut that the management were some awful con men, if that gets you somewhere. But do your math if you want the stunning clarity of proof and understanding schufflings on and off balance sheets. When the system of regulations holding together the savings and loan industry fell apart, hundreds piled on the great grab, making off while the looting was good. That's what happens when systems of social cohesion fall apart. Enron fell apart in misusing the delicate, precious instruments of modern finance, and many second-raters got some loot. But the system of global modern finance by which we all live and are tied intimately with one another did not fall apart. Not this time. Leave off decrying accountants and crooks. Study your math and know your knowledge is at the core of how humans live now and tomorrow. ___________ Natalie H. Vania is the Founder of Arshiya Ventures.