Supreme Court Issues Decision Analyzing Whether Misrepresentation Is 'In Connection With' Purchase Or Sale Of Covered Security

The United States Supreme Court issued a significant ruling that may present challenges to the Securities and Exchange Commission in pursuing some federal securities fraud claims and may open up some defendants to costly state court class actions.

On February 26, 2014, in Chadbourne & Parke LLP v. Troice et al.,1 the Supreme Court narrowed the definition of "in connection with" as that term is used in the Securities Litigation Uniform Standards Act of 1998 (SLUSA). SLUSA bars state law class actions in which the plaintiff alleges a misrepresentation or omission "in connection with the purchase or sale of a covered security." The plaintiffs in a state law class action had alleged that they purchased certificates of deposit (uncovered securities) based on the misrepresentations that the certificates of deposit were backed by purchases and sales of covered securities. The Supreme Court held that a material misrepresentation is "in connection with" the purchase or sale of a covered security only if it makes a significant difference to someone's (other than the fraudster's) decision to purchase or sell a covered security.2 Because the certificates of deposit purchased by the class were not "covered securities," the 7-2 majority concluded that there was not a sufficient "connection" between the misrepresentations (which related to the fraudster's purported purchase or sale of securities) and any purchase or sale of covered securities by the aggrieved investors.3 As a result, SLUSA did not bar the state class action from continuing. Although the Court interpreted the "in connection with" requirement of SLUSA, the same "in connection with" language appears in the key antifraud provisions of Section 10(b) and Rule 10b-5 of the Securities Exchange Act of 1934. Accordingly, the decision will have implications for both application of the restrictions imposed by SLUSA and the reach of the antifraud provisions of the 1934 Act. The Decision

At issue in Chadbourne were four consolidated class actions involving plaintiffs who purchased certificates of deposit in the Stanford International Bank as part of former financier and cricket magnate Allen Stanford's multibillion-dollar Ponzi scheme.4 These certificates of deposit were not traded on a national exchange or issued by an investment company. The plaintiffs alleged they were told that Stanford International Bank backed the certificates of deposit with nationally traded securities, making the certificates...