Six former SEC Commissioners have urged the US Supreme Court to require investors in a private fraud-on-the-market securities action seeking to obtain class certification to establish by a preponderance of the evidence that the alleged misrepresentations were material in that they affected the stock price. In their amicus brief, the former Commissioners asked the Court to reverse a Ninth Circuit panel ruling that investor need not prove materiality at the class certification stage in order to use the fraud-on-the-market presumption of reliance. The former SEC Commissioners are Aulana Peters, Charles Cox., Philip Lochner, Stephen Friedman, Joseph Grundfest, and Paul Atkins. The case is set for oral argument on November 5. Amgen, Inc. v.
Retirement Plans and Trust
Funds, Dkt. No. 11-1085. Connecticut
According to the former Commissioners, the Ninth Circuit decision strikes at the heart of the Court’s 1988 ruling in Basic, Inc. v. Levinson, which recognized that in order to benefit from a presumption of class-wide reliance, a private securities fraud plaintiff seeking money damages must show at the class certification stage that the essential predicates to a fraud-on-the-market theory are met. The crux of the theory is that an efficient market reflects all public information in the price of a security. Thus, investors purchasing a stock relying on the integrity of the market price rely on any material misstatements made to the market because the effect of the misstatement is incorporated in the stock price.
It follows that materiality in the form of information that is incorporated into securities prices is a necessary condition precedent to the very theory that makes class certification possible. In Basic, the Court recognized that whenever the link between an alleged misrepresentation and the market price is severed the presumption of reliance in not applicable and class certification is improper. In the view of amici, the Ninth Circuit did not follow these important principles.
The Ninth Circuit’s misreading the Supreme Court’s Basic decision, and the role of materiality in the class certification inquiry, has significant implications. Because securities are almost always settled when a class is certified, reasoned amici, the materiality and stock price impact of an alleged misstatement will never be tested unless examined as part of a Rule 23 inquiry. It follows that the investor’s allegation of reliance will never be tested.
Thus, in the view of the former SEC Commissioners, the Ninth Circuit ruling unleashes the in terrorem power of class certification to compel settlement of even questionable claims without any meaningful inquiry into materiality or price impact or the properness of presuming reliance. The Basic decision teaches that these are critical issues that must be tested at the class certification stage.
Further, the Ninth Circuit’s expansive interpretation of the fraud-on-the-market doctrine untethers the class certification determination from even the most cursory consideration of materiality. The panel’s decision is therefore contrary to recent Supreme Court admonitions that the Rule 10b-5 implied right of action is to be narrowly interpreted.
Amici assured that the position they are advocating would not impair the SEC’s ability to enforce the federal securities laws. In civil enforcement actions, the SEC is not required to establish reliance or causation. Thus, the SEC need not depend on the fraud-on-the-market theory and need not prove materiality by way of price impact.