If

El Paso

(EP)

made a killing from the California energy crisis of 2000-01, it's paying for it now.

The Houston energy giant lost a third of its market value Monday on news of an unfavorable ruling at the Federal Energy Regulatory Commission. In a surprising reversal, FERC Judge Curtis Wagner ruled that El Paso intentionally withheld crucial pipeline capacity from California markets and should pay penalties as a result.

The chief judge's report now goes to the full four-member commission for action that could include fines. But Wall Street wasn't waiting around to see the T's crossed and the I's dotted. The market immediately imposed its own stiff punishment, whacking more than $2 billion from El Paso's capitalization. The stock finished at a record closing low of $7.51, posting a 35.7% plunge that ranked as Monday's deepest loss on the

New York Stock Exchange

.

The setback comes at the end of a terrible summer for merchant energy stocks, and skeptics wonder if worse isn't ahead for El Paso. The company has been plagued by questions about its accounting, and some investors wonder if El Paso's jealously guarded investment-grade debt rating might fall prey to the dispute.

'New Evidence'

In a 23-page report issued Monday, Wagner recommended that FERC penalize El Paso for inappropriately withholding pipeline capacity and exercising market power. Last October, the judge said he lacked the documentation necessary to show any wrongdoing.

"The new evidence produced in this phase of the case shows a clear withholding of substantial capacity during the relevant period, which clearly indicates an exercise of market power," Wagner wrote.

Wagner found that El Paso withheld 21% of its pipeline capacity in California -- seven times the amount El Paso claimed was offline for legitimate purposes.

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For its part, El Paso attacked Wagner's decision as flawed.

"It is inappropriate and without precedent to second-guess a pipeline's day-to-day operations," said El Paso Chief Executive William Wise. "We are confident in the strength of our position and believe that we will ultimately obtain a favorable ruling."

John Olson, an analyst at Sanders Morris Harris in Houston, agreed, insisting that investors had overreacted.

"The fear and panic that's driving El Paso's stock price down bears no relationship to the potential fines or damages the company faces," said Olson, a longtime El Paso stockholder who rates the stock a buy. "If El Paso is fined, it might have to pay $50 million or $100 million."

Clashing

But Olson's optimistic talk clashed sharply with the rising voices of El Paso bears. Short-sellers believe the company faces up to $3 billion in real damages, which could triple under a treble damage award if FERC upholds Wagner's ruling. The California utility board has estimated the state's losses at more than $3 billion over the crisis period.

"El Paso even had a witness make a litany of excuses to explain why El Paso did not deliver that capacity," said Peter Cohan, a Massachusetts author and investment strategist with no position in the stock. "Fortunately for the public's interest in honest energy markets, El Paso's efforts to suppress the truth failed."

Some critics believe El Paso's biggest problems have only just begun. They predict swift downgrades by ratings agencies, which could strip El Paso of the precious investment-grade rating that has differentiated the company from its struggling peers.

Both Moody's and Standard & Poor's have cautioned that El Paso's credit rating could be at risk. In a report this summer, S&P wrote: "Any event that affects El Paso's credibility -- even a tiny and insignificant 'wash trade' -- could instantly affect the company's ratings or outlook."

Karl Miller, a former El Paso executive critical of management industrywide, said the market has clearly lost all faith in the company.

Both Miller and Cohan predicted that El Paso will continue to weather a beating until management is replaced. They believe Monday's free-fall was only partially triggered by the FERC decision. They point to El Paso's

aggressive off balance sheet accounting and

asset-gobbling master limited partnership as additional concerns.

"If some other substantial issues that are pending become more public, El Paso could be facing tremendous problems in the very near future," Miller said. "Together, those problems could jeopardize the company and its management as it exists today."