Tuesday, May 01, 2018

High court will not consider burden of persuasion when invoking fraud-on-the-market

By Rodney F. Tonkovic, J.D.

The Supreme Court has denied certiorari for a petition asking it to consider questions posed by the invocation of the fraud-on-the-market presumption of reliance under Basic Inc. v. Levinson. The first question asked which party has the burden of persuasion when a defendant tries to rebut the presumption. The petition also asked what evidence must be put forth by a plaintiff seeking to rebut the presumption (Barclays PLC v. Waggoner, April 30, 2018).

Dark pools. Petitioner Barclays PLC operates a "dark pool" trading system that it claimed protected customers from practices engaged in by high-frequency traders. A securities fraud suit was filed in 2014 alleging that contrary to its representations, Barclays not only allowed high-frequency traders in LX, but sought them out and gave them information that allowed them to take advantage of other traders.

The district court granted class certification for certain purchasers of Barclays' ADS, concluding that, since omissions were at the heart of the case, the Affiliated Ute presumption of reliance applied. In the alternative, the Basic presumption also applied because there was an efficient market and direct evidence of price impact was thus not necessary. The court then found that Barclays failed to rebut the Basic presumption because it failed to demonstrate that the allegedly fraudulent statements did not impact the ADS price.

On appeal, a Second Circuit panel agreed with Barclays' argument that Affiliated Ute did not apply because the complaint was based mainly on allegations of affirmative misrepresentations, not omissions. The Basic presumption of reliance, however, did apply, and the panel concluded that direct evidence of price impact under Cammer is not always necessary, and was not required here at the class certification stage. In this case, the district court's decision not to rely on direct evidence was permissible because all of the seven indirect factors weighed clearly in favor of finding an efficient market. The panel then affirmed that Barclays failed to rebut the Basic presumption and that it was not erroneous to require that this be shown by a preponderance of the evidence.

Burden of persuasion. In its petition, Barclays asserted that lower courts are in express disagreement as to the first question presented in the petition: whether a defendant seeking to rebut the fraud-on-the-market presumption of reliance under Basic has a burden of production or a burden of persuasion. In its decision, the Second Circuit expressly disagreed with an Eighth Circuit ruling that, based on Federal Rule of Evidence 301, defendants only have a burden of production when rebutting the Basic presumption. The Second Circuit reasoned that the Supreme Court adopted the Basic presumption pursuant to the securities laws, so the burden of persuasion was thereby shifted to the defendants.

Direct evidence. The petition also asked whether plaintiffs may invoke the fraud-on-the-market presumption without direct evidence that the price of the security responded to new, material information during the class period. While several other courts require event studies showing a cause-and-effect relationship, the Second Circuit held that direct evidence of market efficiency is not required where indirect factors suggest that the market is efficient. This, the petition suggested, created a need for guidance among lower courts confused as to whether and when indirect indicators can substitute for direct evidence.

The petition concluded that as a practical matter, the Second Circuit's ruling lowers the bar for plaintiffs to establish the Basic presumption and raises the bar for defendants to rebut it. According to the petition, class certification will be "inevitable" in the Second Circuit, creating "in terrorem pressure" on large, publicly-traded companies to settle.

The petition is No. 17-1209.