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Argument preview: Justices to reconsider landmark securities class-action decision

The lone argument on Wednesday, Halliburton Co. v. Erica P. John Fund, presents the kind of question the Justices don’t often consider: “Whether the Court should overrule or substantially limit the holding of Basic Inc. v. Levinson, 485 U.S. 224 (1988).” But the Justices granted the petition to decide that question, and so the focus of argument on Wednesday will be an unusual one: not whether the Court’s existing precedent suggest a decision one way or the other, but whether the Court should jettison the existing precedent entirely.

The case involves the so-called “fraud-on-the-market” theory of liability in a class action under SEC Rule 10b-5.  Because the private right of action under Rule 10b-5 (at least traditionally) has been understood to require reliance, it is difficult to bring a class action based on public misrepresentations about a stock. Among other things, conventional methods of proof might require proof that each of the plaintiffs that purchased the stock was aware of the misrepresentation. Such a standard would make a class action particularly difficult, because the proof in such a regime would not involve common questions of fact or law, but rather would proceed individual by individual.

The Court’s 1988 decision in Basic resolved that problem by adopting the “fraud-on-the-market” presumption.  The syllogism on which Basic rests is that (I) because well-developed markets (like the New York Stock Exchange) are generally efficient, (II) the price in those markets reflects all material information available to investors, so that (III) any purchase after a misrepresentation will be at a price distorted by the misrepresentation, and (IV) it is to be presumed that plaintiffs in such an action relied on the misrepresentation when they purchased at the distorted stock.

Of particular importance for the present dispute, Basic was decided by a four-to-two vote: Justice Blackmun’s opinion for the Court garnered only four votes (his own, as well as the votes of Justices Brennan, Marshall, and Stevens); Justices White and O’Connor dissented; and Chief Justice Rehnquist and Justices Scalia and Kennedy were recused. Thus, it appears that none of the Basic majority or dissenters remain on the Court; the only current Justices who were on the Court at the time (Scalia and Kennedy) did not participate in that decision.  But individual Justices have on more than one occasion signaled their dissatisfaction with Basic.  Most recently, in last year’s decision in Amgen v. Connecticut Retirement Plans, Justices Scalia, Kennedy, Thomas, and Alito all called, in separate opinions, for the Court to reconsider Basic – leading to the boldly phrased question presented in Halliburton and the Court’s reconsideration of Basic.

From the briefs, it seems impossible to offer any justified prediction of a result; the Solicitor General’s support of the status quo seems so compelled by the SEC’s interests in enforcing the securities laws that it seems to add little to the balance of persuasion.  The arguments on both sides are so balanced and contradictory that they seem almost rehearsed.  At the highest level of generality, the parties join issue on four major points, which might provide a scorecard of sorts for assessing the temperament of the Justices in oral argument.

I. First, Halliburton (seeking the abolition of Basic – and thus a major limitation on securities class actions) emphasizes the loss of academic confidence in the “efficient capital markets hypothesis” at the heart of Basic’s reasoning. Halliburton itself (to say nothing of the veritable flood of amici supporting it) readily demonstrates that few scholars now take seriously the idea that markets are “efficient” in any strong sense.  The erosion of expert support for the analytical premise of Basic, Halliburton argues, justifies reconsideration (and rejection) of it.

The Erica P. John Fund argues that the academic debate about the accuracy of the efficient capital markets hypothesis is just that – academic.  In its view, Basic rests on a much narrower (and more readily defensible) factual proposition: that securities markets react reasonably promptly to material, public information by incorporating that information into the stock price.  The Fund emphasizes the requirements (primarily developed in the lower courts) that plaintiffs submit case-specific proof about the market for the stock in question (event studies of price shifts are typical), and that defendants be permitted to rebut the presumption with similar evidence.

II.        Halliburton also argues that Basic is out of line with the Court’s more recent decisions in cases involving class actions and securities law in particular.  In the class action realm, for example, the Court’s decisions in cases like Comcast v. Behrend and Wal-Mart v. Dukes have emphasized the need for plaintiffs to provide an affirmative factual demonstration that common issues predominate before class certification.  Basic’s counterfactual presumption of reliance is jarring in its dissonance (it says). Halliburton also emphasizes several of this Court’s decisions since Basic that have narrowed (or declined to broaden) relief under Rule 10b-5 and in particular emphasized the importance of proof of reliance not only in that context but also in the parallel context of Section 18 of the Securities and Exchange Act.

For its part, the Fund again emphasizes the procedural requirements that plaintiffs affirmatively proffer evidence about the workings of the market for the stock in question. In its view those pre-certification proof requirements implement all that Wal-Mart and Comcast would require; it points out that Wal-Mart itself noted the fraud-on-the-market theory without any aspersion suggesting it was out of line with more modern skepticism about class actions. With regard to reliance, the Fund argues that precedents under Section 9 (which have treated reliance less rigorously) are more probative.

III. Halliburton also contends that subsequent legislation (primarily the Private Securities Litigation Reform Act or PSLRA) limiting abusive securities class actions has left the broad Basic presumption increasingly out of place, a relic of past days when the Court readily imputed and broadly applied private rights of action.  The Fund, on the other hand, points out that Congress repeatedly has stepped in to micromanage the Court’s decisions in the securities area.  Several of Congress’s post-Basic enactments have operated so close to the fraud-on-the-market theory that they must (in the Fund’s view) be taken as congressional acquiescence in Basic.

IV. Finally, Halliburton (predictably enough) sees stare decisis as an insubstantial barrier, emphasizing the need for judges to correct their own errors and the long tradition of judicial articulation of rules for the private right of action under Rule 10b-5.  It also argues (with considerable support here from amici) that the lower courts have fallen into such disarray in trying to implement Basic that the unworkability of the decision is self-evident.  The Fund, conversely, emphasizes the Court’s repeated emphatic statements that stare decisis is at its apex in statutory cases, in which Congress can so readily reverse results it finds unsuitable.  The Fund argues that (outside the civil rights area) it has been decades since the Court reversed such a wholly statutory decision, and that such an encrustation of law and institutions has built up around Basic that the Court is not well-placed to excise it from the body of existing law.

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The briefing reminds me more than anything of Karl Llewellyn’s discussion of canons of statutory construction – designed to prove that, on any particular point where a canon provides support for one side of an issue, a contrasting canon can provide support for the other side.  It would be trivially easy to draft a lucid and coherent opinion deciding this case either way – and there is every reason to think we’ll see opinions taking both views.

It is probably safe to assume that the Justices didn’t take the case unless there are four Justices inclined to overturn Basic, but whether those four Justices had any solid ground for thinking they could attract a fifth vote remains to be seen.

One other interesting thing about this case is the likely reversal of conventional “roles” for the various Justices.  Justices who express the most confidence in the reliability of market mechanisms would be inclined (at least in theory) to leave Basic in place, which would make it easier to file class actions.  At the same time, Justices who are more skeptical about the efficiency of market mechanisms might be more likely to overrule Basic, which thus would make it harder to file class actions.

[Disclosure: Goldstein & Russell, P.C., whose attorneys contribute to this blog in various capacities, is among the counsel on an amicus brief in support of the Fund in this case.  However, the author of this post is not affiliated with the firm.]

Recommended Citation: Ronald Mann, Argument preview: Justices to reconsider landmark securities class-action decision, SCOTUSblog (Mar. 4, 2014, 10:31 AM),