ATTORNEY: EMMA GILMORE
Pomerantz Monitor, March/April 2014
In a 7-2 decision issued on February 26, 2014, the United States Supreme Court resolved a circuit split over the application of the Federal Securities Uniform Standards Act of 1998 (“SLUSA”). This act bars class actions alleging state law claims of common law fraud “in connection with” the sale of a SLUSA-defined ”covered security”. The decision clears the way for investors to seek recovery under state law from the law firms of Proskauer Rose and Chadbourne and Parke, and other secondary actors, of just under $5 billion they paid for certificates of deposit administered by Stanford International Bank Ltd. The decision marked a win for the plaintiffs’ bar. The plaintiffs alleged that convicted swindler Allen Stanford ran a multibillion dollar Ponzi scheme, selling investors bogus certificates of deposit issued by the bank. These certificates are not “covered securities” as defined by SLUSA. However, the proceeds of the offer were supposed to be invested in “covered securities” that were conservative investments. Stanford never bought the covered securities. Instead he used the investors’ money to repay old investors, maintain a lavish lifestyle, and to finance highly-speculative real estate ventures.
The Court defined the crux of the claim as “whether SLUSA applies to a class action in which the plaintiffs allege (1) that they ‘purchase[d]’ uncovered securities (certificates of deposit that are not traded on any national exchange), but (2) that the defendants falsely told the victims that the uncovered securities were backed by covered securities.” The key phrase in SLUSA, according to the majority opinion, was its prohibition of state law class actions arising “in connection with” the purchase of a covered security. The majority interpreted that phrase narrowly, holding that an actual sale of a covered security has to occur for SLUSA to apply, and not just a promised sale. The majority observed that a broader interpretation would directly conflict with matters primarily of state concern the fact that the certificates were allegedly backed by covered securities was an insufficient connection to covered securities to bring the case within SLUSA’s reach.
In a dissention opinion, Justices Anthony Kennedy and Samuel Alito warned that the majority’s ruling could hamper SEC’s enforcement efforts, because Section 10(b) of the Securities Exchange Act, under which the SEC brings enforcement actions, also uses the phrase “in connection with the purchase or sale of any security.” The majority found that concern unfounded, however, saying the SEC failed to identify any enforcement action filed in the past 80 years that would be foreclosed by the ruling. Indeed, the SEC had already successfully sued Stanford and his accomplices over the certificates of deposit. “The only difference between our approach and that of the dissent,” Justice Breyer added, “is that we also preserve the ability for investors to obtain relief under state laws when the fraud bears so remote a connection to the national securities market that no person actually believed he was taking an ownership position in that market.”
Securities law experts are backing the majority’s limited ruling. “The opinion is imminently correct as a matter of common sense and legal policy,” said Donald Langevoort, a professor of law at Georgetown University. Langevoort said he was “very surprised” the SEC tried to argue that a ruling for the plaintiffs may curtail the government’s enforcement powers.