First Circuit Affirms Dismissal Of Putative Securities Class Action Against Bank For Alleged Failure To Disclose Deteriorating Bond Market Conditions

• Published date: 16 June 2022
• Subject Matter: Corporate/Commercial Law, Litigation, Mediation & Arbitration, Corporate and Company Law, Class Actions, Trials & Appeals & Compensation, Securities
• Law Firm: Shearman & Sterling LLP
• Author: Shearman & Sterling LLP

On May 20, 2022, the United States Court of Appeals for the First Circuit affirmed the district court's dismissal of claims under Section 10(b) of the Securities Exchange Act (the 'Exchange Act') and Rule 10b-5 thereunder against a bank and its affiliates (the 'Bank'). Ponsa-Rabell v. Santander Sec. LLC, et al., No. 20-01857 (1st Cir. May 20, 2022). Plaintiffs alleged the Bank devised a scheme to defraud investors into purchasing Puerto Rican government bonds by omitting material information about the state of the market and about its own alleged program to rid itself of those securities. The appeal did not pertain to the district court's dismissal of claims under Section 17(a) of the 1933 Securities Act or Plaintiffs' claims brought under Puerto Rican law for which the district court declined to exercise supplemental jurisdiction after dismissing plaintiffs' securities claims.

According to the Complaint, the Bank acted as broker to plaintiffs who allegedly purchased Puerto Rico Municipal Bonds, Puerto Rico Closed End Funds, and Puerto Rico Open End Funds (collectively the 'PRMB securities') from December 1, 2012 to October 31, 2013 (the 'Putative Class Period'). Plaintiffs alleged that the PRMB securities were marketed to the public via fund-specific prospectuses that disclosed the fund's investment objectives, risk factors, and tax consequences, along with investment risks associated with each particular fund. According to the Complaint, the PRMB securities were 'attractive investments' that offered relatively high interest and were exempt from Puerto Rican and Federal income and estate taxes. Shortly before the Putative Class Period, however, the Complaint alleges that Puerto Rico began experiencing an economic recession, which made investments in the PRMB securities particularly risky. Plaintiffs alleged that during the recession, Puerto Rico issued billions of dollars in PRMB securities and used the proceeds to pay off existing debts rather than to stimulate the Puerto Rican economy. Puerto Rico's deficit allegedly increased to approximately $2.2 billion and became unpayable.

According to the Complaint, in 2012, various public sources began warning about the increased risks of holding PRMB securities, including a March 2012 published report that warned that Puerto Rico was 'flirting with insolvency', and an August 2012 report from Moody's Investor Service ('Moody's') lowering Puerto Rico's bond credit rating to Baa1 and advising that '[c]onservative...