WASHINGTON, DC.— The Washington Legal Foundation (WLF) this week urged the U.S. Supreme Court to overturn or substantially modify its 25-year-old fraud-on-the-market presumption.  The practical effect of that presumption, WLF argued in a brief filed in support of Halliburton, Inc.’s efforts to overturn class certification in a long-running securities lawsuit, is to require defendants in virtually all such suits to settle cases without regard to the merits of the plaintiffs’ claims.

In a suit alleging stock fraud, the plaintiff must establish that he purchased the defendant corporation’s stock in reliance on the defendant’s misrepresentations.  However, the Supreme Court  in a 1988 decision adopted the “fraud-on-the-market” theory, under which every statement made by a corporation (whether accurate or misleading) is presumed to be reflected in the price of corporate stock that is widely traded, and every a purchaser who buys at the market price is presumed to have relied on the fairness of the market price and thus on the accuracy of all a corporation’s public statements.

The fraud-on-the-market theory makes possible the certification of class actions in securities cases; if reliance had to be proven on a plaintiff-by-plaintiff basis, class certification would be impractical and  impermissible because individual issues of fact would overwhelm any issues of fact that could be litigated on a class-wide basis.  But with the benefit of the presumption of reliance created by the fraud-on-the-market theory, plaintiffs’ lawyers are able to achieve class certification in virtually all securities fraud cases.  The costs of defending a certified class action are so onerous that defendants have little choice but to settle all such cases for substantial sums.

WLF argued that the 1988 decision should be overruled because research overwhelmingly indicates that stock prices fluctuate widely even in the short term,  and that many investors buy stock precisely because they believe that the stock is not accurately priced.  WLF argued alternatively that, at the very least, defendants ought to be permitted to oppose class certification by introducing evidence that any alleged misrepresentations did not inflate market price.  WLF’s brief was written with the substantial pro bono assistance of Lyle Roberts of Cooley LLP.

After filing the petition, WLF issued the following statement by Chief Counsel Richard Samp:

“The Supreme Court opened the floodgates to securities class action lawsuits 25 years ago when it created a presumption that every shareholder relies on every statement made by a publicly traded company.  But experience has shown that that’s simply not the way that markets work.  Fairness to defendants requires that, at the very least, they ought to be permitted to rebut the presumption, and thereby defeat class certification, by introducing evidence that any alleged misrepresentation had no impact on stock price.”

WLF is a public interest law firm and policy center that regularly litigates in support of tort reform, to ensure that the costs of unwarranted lawsuits do not drive up costs for all consumers.