ebook essays pieces of the puzzle
Tuesday, June 26th, 2012
black marks

In the middle of 2008, energy was riding high.  Since then, the story has been much different, with the sector substantially underperforming the S&P 500.  The absolute total return was -24% from then until now, as shown by the red line in the chart.

The other lines are evidence of declines that are even more pronounced.  Chesapeake Energy (CHK) has lost almost three-quarters of its value.  It’s a case study in governance issues and good ol’ boy deals in the energy sector.  In 2008, enormous margin calls for CEO Aubrey McClendon added to the downside trauma.  This year, it came to light that he had a special deal to invest side-by-side with the company in wells it was developing.

That’s not to discount the impact of the drop in natural gas prices on the stock, but the problems have clearly been exacerbated by McClendon looking out for himself rather than shareholders, no matter his statements that his interests align with theirs.

BlackRock Energy & Resources (SSGRX) is an open-end fund that had an issue of its own of late.  A June 1 story by Jason Zweig raised questions about potential conflicts of interest for Daniel Rice, one of the fund’s managers.  His own energy firm had business dealings with one of the stocks he held on behalf of the shareholders of the fund he was managing.  Ultimately, Rice was removed as a manager of the fund and will be leaving BlackRock.

Money managers should try to avoid potential conflicts of interest and to disclose them when they are unavoidable.  If Rice disclosed his conflict to BlackRock, then why didn’t BlackRock disclose it to clients?  That would be standard practice.  And what about the fund’s trustees?  Are they captives of BlackRock, going along with the lack of disclosure, or did they not know?

It is a sad fact that CEOs and money managers can be viewed as stars for whom rules are bent or broken and common sense is warped.  Had the chart above started earlier, you would have seen outstanding performance for all three investment vehicles.  That’s precisely the kind of environment during which eyes are diverted — away from fundamental flaws, potential risks, and ethical weaknesses that one day will bubble up from the ground.  (Chart:  Bloomberg terminal.)