Earlier this week the Supreme Court reaffirmed the validity of the “fraud-on-the-market” presumption of reliance that significantly eases the burden on investors in obtaining certification of private securities fraud class actions, but held that defendants must be permitted an opportunity at the class certification stage to rebut the presumption through direct or indirect evidence showing that the alleged misrepresentations did not impact the stock price.
In the more than 25 years since the Supreme Court decided Basic Inc. v. Levinson , plaintiffs in private securities fraud actions have satisfied the reliance element of a § 10b-5 claim without having to prove that they directly relied on a defendant’s misrepresentation in deciding to buy or sell a stock. Instead, such plaintiffs have established reliance by invoking a Court-created presumption that a public, material misrepresentation will distort the price of stock traded in an efficient market, and that anyone who purchases the stock at the market price may be considered to have done so in reliance on the misrepresentation. Without this presumption of reliance, a private securities fraud suit would likely fail as a class action because common issues would not predominate over individual ones, as is required by Rule 23(b)(3), if each plaintiff had to prove reliance on an individual basis.
In this case, Halliburton asked the Court to overturn the Basic presumption of reliance, arguing that it is at odds with more recent decisions making it clear that a party seeking to maintain a class action must affirmatively demonstrate through evidentiary proof that questions of law or fact common to all class members predominate over any questions affecting only individual members. Alternatively, Halliburton asked the Court to modify Basicby requiring, as an additional predicate to invoking the presumption of reliance, proof that a defendant’s misrepresentation actually impacted the stock price. Halliburton also requested modification of Basic to at least allow defendants to rebut the presumption with evidence of a lack of price impact before class certification, not just at the merits stage.
The Court declined the invitation to overturn Basic. Writing for the majority, Chief Justice Roberts explained that, rather than relieving plaintiffs of the burden of proving predominance before class certification, Basic establishes that a class may only be deemed to meet the predominance requirement of Rule 23(b)(3) if plaintiffs can prove the Basic prerequisites—i.e., publicity, materiality, market efficiency, and market timing–which, except for materiality, must all be shown prior to certification. For substantially the same reasons it refused to overrule the presumption altogether, the Court also denied Halliburton’s request to add proof of price impact as a prerequisite for invoking the presumption. The Court did agree, however, that Halliburton and other similar defendants should be allowed an opportunity at the class certification stage to show through direct and indirect evidence that an alleged misrepresentation did not actually affect the market price of the stock, and that the presumption therefore would not apply. Because Halliburton was denied such an opportunity, the Court vacated the lower court’s judgment and remanded the case for further proceedings.
Notably, while all members of the panel concurred in judgment, not all of them subscribed to the majority’s reasoning. Justice Ginsburg, joined by Justices Breyer and Sotomayor, submitted a concurring opinion in which she noted that advancing price impact to the certification stage may broaden the scope of pre-certification discovery. Indeed it might, and the certification phase may in many cases now also involve a significant battle over the price impact issue. Justice Thomas, joined by Justices Scalia and Alito, also submitted an opinion concurring in judgment, in which he stated that he would overrule Basic in favor of a straightforward rule that “reliance by the plaintiff upon the defendant’s deceptive acts—actual reliance, not the fictional ‘fraud-on-the-market’ version—is an essential element of the §10(b) private cause of action.”