In a famous market manipulation that lead to multiple criminal convictions, the A.R. Baron brokerage engaged in a pump-and-dump scheme to induce customers to purchase the securities of small companies at artificially inflated prices. Among many others, investors sued an individual whose acts allegedly facilitated Baron's frauds in violation of Section 10(b). The district court dismissed the Section 10(b) claim.
On appeal, the Second Circuit addressed this dismissal (Fezzani v. Bear Stearns & Co., Inc., 2013 WL 1876534 (2d Cir. May 7, 2013) (Lohier, J. dissenting). The court found that manipulation violates Section 10(b) "when an artificial or phony price of a security is communicated to persons who, in reliance upon a misrepresentation that the price was set by market forces, purchase the securities." The Supreme Court, in its decisions in Stoneridge and Janus, has held that in a Section 10(b) claim involving a misrepresentation there can only be primary liability for entities or individuals who actually communicated the misrepresentation to the injured investors. Applying that principle in the instant case, the court found that because there was no allegation that the individual defendant actually communicated the artificial price information to the investors (as opposed to assisting Baron in its fraud), there could be no Section 10(b) primary liability.
In a vigorous dissent, however, one of the panel members challenged whether Stoneridge and Janus are applicable in a case alleging market manipulation. The dissent noted that a "market manipulation claim permits the plaintiff to plead that it relied on an assumption of an efficient market free of manipulation, whereas a misrepresentation claim requires the plaintiff to allege reliance upon a misrepresentation or omission." As a result, a plaintiff alleging market manipulation is entitled to use a fraud-on-the-market theory to establish reliance (i.e., the defendant engaged in a transaction that sent a fale pricing signal to the market, which was then communicated by the market to the investor). Accordingly, the dissent concluded, the fact that the individual defendant was a key participant in the transactions that sent a false pricing signal was sufficient to establish Section 10(b) primary liability.
Holding: Dismissal affirmed.
Quote of note (dissent): "I fear that every market manipulator . . . will be cheered by the extra shelter for stock manipulation under the federal securities laws that the majority opinion unnecessarily provides them. If I thought that Stoneridge or Janus required that result, I would shrug, concur, and move on. Because I conclude that neither case forecloses the federal claim of market manipulation against Dweck, I respectfully dissent."Posted by Lyle Roberts at May 17, 2013 8:58 PM | TrackBack