The Supreme Court heard arguments yesterday in Halliburton Co. v. Erica P. John Fund, Inc. One issue presented in the case is whether the court should overrule or substantially modify the holding of Basic Inc. v. Levinson, a case decided by a 4-2 “majority” that established the fraud-on-the-market presumption of reliance in private securities fraud actions. As both Adam Liptak at the New York Times and Wall Street Journal’s Law Blog pointed out, the Justices did not seem inclined to completely overrule Basic. Justice Kagan noted that Congress has “had every opportunity, and has declined every opportunity, to change Basic itself.” Justice Scalia also seemed somewhat inclined to agree that when Congress enacted the Securities Litigation Uniform Standards Act of 1998 (SLUSA), even if it did not expressly ratify Basic, Congress “assumed” that the presumption of reliance would continue and that SLUSA’s provisions would not make sense without it.
The Justices focused more on the second issue presented in the case: whether, in a case where the plaintiff invokes the presumption of reliance to seek class certification, the defendant may rebut the presumption and prevent class certification by introducing evidence that the alleged misrepresentations did not distort the market price of its stock. During the arguments, Justice Kennedy repeatedly referred to an amicus brief filed by two law professors. In the amicus brief, the professors argue that at the class certification stage courts should consider whether there is evidence of market movement caused by an alleged misrepresentation, rather than the current practice of merely requiring plaintiffs to show that a market is efficient. Plaintiffs or defendants could show this market movement by introducing an event study, which is “a regression analysis that measures the effect of an event, such as a firm’s earnings announcement, on a firm’s stock price” and is the “gold standard” technique for determining whether the market relied on a misstatement. Justice Kennedy described this approach as a “midway point.”
If the Justices adopt the “midway point,” an interesting question will be whose burden it will be to show price impact at the class certification stage. One possibility, which Halliburton’s counsel argued would be more consistent with Rule 23, would be that plaintiffs would have the burden because, at the class certification stage, it is the plaintiffs’ duty to show common issues of reliance predominate. If the burden is placed on the plaintiffs, it could mean that the costs of performing event studies would be pushed forward in the litigation. It could also make it more difficult to have classes certified in omissions cases given the difficulties associated with attempting to prove that the stock price would have moved but for the omission. The other possibility is to allow defendants to rebut the presumption at the class certification stage by introducing event studies that show the alleged misrepresentations did not affect market price.