In order to prevail in a private securities fraud action, a plaintiff must demonstrate that defendants' deceptive conduct caused his or her economic loss – a concept known as "loss causation." Today, the Supreme Court unanimously ruled that class action plaintiffs do not need to prove loss causation in order to obtain class certification. Erica P. John Fund, Inc. v. Halliburton, Inc., No. 09-1403, slip op. (Jun. 6, 2011).
The class action lawsuit, which was based on alleged misrepresentations made between June 1999 and December 2001, survived an initial motion to dismiss. However, when the District Court denied lead plaintiff EPJ Fund's request to have its proposed class certified, because the plaintiff failed to establish loss causation with respect to its claims. The Fifth Circuit Court of Appeals affirmed, stating that plaintiff was required to "prove loss causation, i.e., that the corrected truth of former falsehoods actually caused the stock price to fall and resulted in the losses." Erica P. John Fund, Inc. v. Halliburton, Inc., 597 F.3d 330, 335 (5th Cir. 2010).
Writing for the Court, Chief Justice Roberts, citing the Supreme Court's decision in Basic, Inc. v. Levinson, 485 U.S. 224, 242 (1988), noted that "[r]equiring proof of individualized reliance from each member of the proposed plaintiff class" would prevent any class action from proceeding because "individual issues" would "overwhelm the common ones." As a result, plaintiffs may invoke a rebuttable presumption of reliance based on a "fraud-on-the-market" theory – an investor presumptively relies on misrepresentations by the defendant if that information is reflected in the market price at the time of the transaction.
The Court pointed out that requiring a demonstration of loss causation meant that plaintiffs would have to show that a misrepresentation also caused a subsequent loss (when the corrected truth causes the price fall). The Court rejected that premise as being contrary to the rebuttable presumption theory under Basic and held that the Fifth Circuit erred in ruling that plaintiffs needed to establish "loss causation" in order to invoke the rebuttable presumption of reliance to secure class certification. The case was remanded for further proceedings.