Halliburton Inc. v. Erica P. John Fund, Inc.


Halliburton Inc. v. Erica P. John Fund, Inc. Case

Law Professors’ Briefs in Halliburton

Several lawyers filed a brief in January 2014 on behalf of law professors Adam Pritchard and Todd Henderson in Halliburton Co. v. Erica P. John Fund, Inc., involving the continuing validity of Basic Inc. v. Levinson. Below is a short summary of the argument:

“Basic’s view of capital market efficiency was unrealistic. Rather than being totally “efficient” or “inefficient,” securities markets enjoy varying degrees of efficiency, and incorporate information at varying rates. Although some well-developed markets incorporate most information into prices relatively quickly, research conducted since Basic suggests that even the most open markets are not completely efficient and incorporate some information slowly (if at all). Accordingly, Basic’s understanding that a particular alleged fraud will necessarily be incorporated into the stock price is no longer sound.

Moreover, lower courts’ attempts to estimate efficiency have been inconsistent and empirically inaccurate. Faced with the difficult task of determining whether a market is “efficient,” courts have resorted to examining proxies for efficiency. Many such proxies are highly correlated with each other (and therefore redundant), while others have little empirical relationship with efficiency, and there is confusion about how to weigh the various factors. The result is a doctrinal and empirical muddle for both courts and litigants.

The brief argues that “[i]n light of the difficulties in evaluating efficiency, the Court should shift the focus of fraud on the market inquiries from a market’s overall efficiency to the question whether the alleged fraud affected market price.”

There is other brief submitted by a second group of professors, including Joseph A. Grundfest, Stephen M. Bainbridge, Elizabeth Cosenza, Richard A. Epstein, Allen Ferrell, Todd Henderson, Richard W. Painter, Kenneth E. Scott, Paul S. Atkins, Edward H. Fleischman, Steven Wallman, and Brian G. Cartwright.

It argues that the Court “need not wade into the complex and highly technical debate over the efficient markets hypothesis to answer the question presented here. Instead, the Court can, and should, decide this case by applying well-established principles of statutory construction.” It argues that, to infer how the 1934 Congress would have addressed the issues had the 10b–5 action been included as an express provision in the 1934 Act, the Court should consult the express causes of action in the securities laws, and borrow from the most analogous one.

The brief argues that “most analogous” provision is Section 18(a) of the Securities Exchange Act of 1934. Section 18(a) is the only express right of action in existence in 1934 that authorizes damages actions for misrepresentations or omissions that affect secondary, aftermarket trading. It is the only express right that provides a cause of action for damages in favor of openmarket purchasers and sellers against those (such as issuers or their executives) who allegedly made false or misleading statements, but did not transact with the plaintiffs—the quintessential Section 10(b) class claim today.

Section 18(a) explicitly states that plaintiffs must demonstrate that they transacted “in reliance upon such [false or misleading] statement[s].” 15 U.S.C. § 78r(a). They must, in other words, demonstrate actual, “eyeball” reliance.14 Section 18(a)’s legislative history, moreover, underscores the need for plaintiffs to demonstrate actual reliance for aftermarket fraud. As originally drafted, Section 18(a) contained no reliance requirement, but Congress rejected that no reliance version in the face of a torrent of criticism. As enacted, Section 18(a) thus prohibits recovery “unless the buyer bought the security with knowledge of the [false or misleading] statement and relied upon the statement.” 78 CONG. REC. 7701 (1934) (statement of Rep. Sam Rayburn), cited in Basic, 485 U.S. at 258 (White, J., dissenting). The Court should construe the Section 10(b) right accordingly.


Posted

in

,

by

Comments

9 responses to “Halliburton Inc. v. Erica P. John Fund, Inc.”

  1. International Avatar
    International

    David Friedman

    One problem with the fraud on the market theory is that a false statement that temporarily raises the price of a stock hurts those who buy it at the temporarily high price but benefits, by the same amount, those who sell it at that price. To deal with that problem you have to either limit the measure of net damage to shares actually sold by those responsible for the false statement at the resulting high price or argue that those responsible were acting as agents of existing stockholders–specifically of those existing stockholders who recognized the falsehood of the statement and took advantage of it to unload their stock at the temporarily high price.

    Absent some such argument, what you have is only a pecuniary externality.

  2. International Avatar
    International

    David Friedman

    Arguably, liability law exists to discourage behavior that produces net costs to other people. An action by C that randomly makes A a dollar worse off and B a dollar better off doesn’t. It’s what economists refer to as a pecuniary externality.

    For one example, consider the effect of a new producer joining a market and driving the price of what is being sold down by a dollar. That makes every other seller of a unit of the good worse off by a dollar, every buyer better off by a dollar–and is not a basis for liability.

  3. International Avatar
    International

    But a new producer is not doing anything illegal. Just labeling the problem a “pecuniary externality” is a definition, not an argument.

    Suppose I am damaged as a side effect of some illegal act committed by you. I don’t see how the fact that some random person benefits by an equal amount should mean you have no responsibility for the damage I incur.

    I might add that there is a general societal interest in at least reasonably honest financial markets, and that behavior that damges the integrity of those markets is broadly harmful.

  4. International Avatar
    International

    Millard

    Event studies have their own serious “underinclusiveness” problems. As the brief recognizes, fraudulent statements or actionable omissions may distort prices by preventing price movement, rather than causing it, but the passage of time or intervening events may result in a lack of price movement when the truth finally emerges. It makes sense therefore to allow multiple options–events studies, efficiency–to prove market fraud.

  5. International Avatar
    International

    Perhaps the point can be made more clearly: these are cases about management fraud, i.e, lies in prublic statements by management about the company. No doubt it has been a big money maker for defense and plaintiff counsel. But what other restraints on fraud are available? The SEC does comparatively little on these issues, and the reforms requiring management to swear to accuracy of statements is mroe or less dead letter. This has nothing at all to do with insider trading.

  6. International Avatar
    International

    That position would certainly decimate the securities class action litigation field. Likely an end to securities class actions entirely as the reliance question would have to be decided for each member. Unless there is a sudden decision to enforce the representation aspects of disclosures, seems securities fraud will become boutique litigation by and among institutions and a very small number of investors.

  7. International Avatar
    International

    Securities class actions punish today’s shareholders for the sins of yesterday’s shareholders, with the lawyers taking a big cut of the action. Hard to see how that serves any useful public purpose.

    If there is any public benefit to outlawing insider trading – which is far from clear – then make it explicitly illegal with a definition of insider trading (something that Congress has refused to do), and let the Feds enforce it with criminal sanctions.

  8. International Avatar
    International

    You don’t have to be a devout EMH believer to understand that false statements, or omissions, affect the market price. If you are considering buying a stock because its prospects appear favorable to you given the current price, you are inherently relying on the misinformation.

    Further, not everyone buys a stock on that basis, nor is that often wise, believe it or not. Suppose you decide to diversify your portfolio by investing more in a particular industry, say automobiles. You might well buy a group of automobile stocks, with your allocations based on the relative prices. If one of those prices is based on misinformation, then you have purchased stock in reliance on that misinformation.

    Reading these arguments gives the impression of a bunch of blind lawyers arguing over what an elephant looks like.

  9. International Avatar
    International

    Congress required someone alleging harm to demonstrate knowledge of and reliance on the misrepresentation. That requires more than relying on the current market price. Perhaps your version of public policy is superior to the policy enacted by Congress. That isn’t the question before the court. At least, it shouldn’t be.

Leave a Reply

Your email address will not be published. Required fields are marked *