In late February, the Supreme Court addressed the ability of the victims of securities fraud to bring class actions alleging violations of state law. The case, Chadbourne & Park v. Troice, has a colorful factual history, but the ruling dealt with a fairly narrow set of cases.
Since passage of the Securities Litigation Uniform Standards Act of 1988 (“SLUSA”), victims of securities fraud are generally prohibited from bringing a class action that relies on violations of state law (as opposed to violations of federal securities law) if the fraud arose “in connection with the purchase or sale of a covered security” – that is, a security that is either traded on national exchange or that is issued by a mutual fund or other registered investment company. SLUSA was part of a number of laws passed by Congress in the late 1980s that were meant to limit frivolous securities fraud cases and insure that cases were litigated pursuant to consistent federal standards.
The Chadbourne case arises out of the Allen Stanford Ponzi scheme. Stanford has sold many investors certificates of deposit issued by his Antigua-based bank, representing falsely to investors that the CDs were safe because the bank was purchasing conservative stocks and bonds with the proceeds. Stanford’s scheme collapsed in 2009; he was later convicted on charges of mail and wire fraud and is currently serving a 110-year jail term. In this case, the victims of the Ponzi scheme sued various law firms, accounting firms and insurers they claimed helped Stanford perpetuate the fraud. Their claims relied, for the most part, on state law.
The CDs that Stanford sold, while securities for purposes federal law, are not covered securities. The firms nonetheless defended the case in part by arguing that it was barred by SLUSA, because Stanford’s representations that he would use the proceeds of the CD sales to purchase assets that would be covered securities rendered the sale of the CDs “in connection with the purchase or sale of a covered security.” The Supreme Court rejected this defense by a 7-2 vote, concluding that SLUSA only applies when a “misrepresentation … is material to a decision by one or more individuals (other than the fraudster) to buy or sell a covered security.” It concluded that the uses that the fraudster made or claimed he intended to make with the proceeds of the sale of otherwise uncovered securities was irrelevant for purposes of SLUSA.
The Chadbourne case, while colorful, is nonetheless highly fact-specific, and thus is likely to have little effect on what types of securities fraud class actions are brought and where and under what law they are litigated.