Insight Center: Publications

Supreme Court to Provide Long-Awaited Guidance on Applicability of Fraud-on-the-Market Presumption

Authors: Robert L. Hickok and Gay Parks Rainville

Reprinted with permission from the July 17, 2012 issue of The Legal Intelligencer. © 2012 ALM Media Properties, LLC. Further duplication without permission is prohibited. All rights reserved.

On June 11, 2012, the U.S. Supreme Court agreed to hear biotechnology company Amgen, Inc.’s appeal of the Ninth Circuit’s decision to affirm class certification in the securities fraud class action, Amgen Inc. v. Connecticut Retirement Plans and Trust Funds, No. 11-1085, 2012 U.S. LEXIS 4366 (June 11, 2012). In this appeal, the court will finally address important issues regarding the applicability of the fraud-on-the-market presumption of reliance adopted by the court in its 1988 seminal decision, Basic, Inc. v. Levinson, 485 U.S. 224 (1988) – issues the court declined to answer one year ago in Erica P. John Fund Inc. v. Halliburton Co., 131 S. Ct. 2179, 2187 (2011). Specifically, the court will focus on two questions:

1. Whether, in a misrepresentation case under SEC Rule 10b-5, the district court must require proof of materiality before certifying a plaintiff class based on the fraud-on-the market theory.

2. Whether, in such a case, the district court must allow the defendant to present evidence rebutting the applicability of the fraud-on-the-market theory before certifying a plaintiff class based on that theory.

See Amgen Pet. at i.

If the court agrees with Amgen that a plaintiff must prove the element of materiality to invoke this rebuttable presumption, then securities class action plaintiffs will confront a significant hurdle in obtaining class certification going forward. Should the court continue its recent trend of handing down plaintiffs-favorable decisions in securities class actions and affirm the Ninth Circuit decision in its entirety, then defendants will face increased pressure to settle these cases before the class certification phase. If, however, the court were to carve out a middle ground consistent with the Third Circuit’s decision in In re DVI, Inc. Securities Litigation, 639 F.3d 623, 637 (3d Cir. 2011), then plaintiffs will not be required to prove materiality at the class certification stage but defendants will be allowed to rebut the fraud-on-the-market presumption with evidence that the allegedly false statement did not affect the market price of the stock. Regardless of whether a lack of “price impact” is due to market inefficiency or the absence of materiality, it is inconsistent with the fraud-on-the-market theory and undercuts the policy reasons for the court’s adoption of the presumption in the first place. If the court were to choose this third option, it could preserve the viability of the fraud-on-the-market presumption without requiring that trial courts decide materiality on the merits at the class certification stage.


In the Amgen case, Lead Plaintiff Connecticut Retirement Plans and Trust Funds (Connecticut Retirement) claims that, during the putative class period (April 22, 2004 to May 10, 2007), Amgen and several of its officers misstated and failed to disclose certain safety information about two Amgen products, Aranesp® and Epogen®, used to treat anemia in alleged violation of sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and SEC Rule 10b-5. To establish its claims on the merits, Connecticut Retirement must prove: “(1) a material misrepresentation or omission by the defendant; (2) scienter; (3) a connection between the misrepresentation or omission and the purchase or sale of a security; (4) reliance upon the misrepresentation or omission; (5) economic loss; and (6) loss causation.” Halliburton, 131 S. Ct. at 2184 (internal quotation marks and citation omitted).

During the class certification phase of Amgen, the question of whether common issues of law or fact predominate under Federal Rule of Civil Procedure 23(b)(3) turned on whether Connecticut Retirement could invoke the fraud-on-the-market presumption of reliance. According to the fraud-on-the-market theory, “the market price of shares traded on well-developed markets reflects all publicly available information, and, hence, any material misrepresentations. Because the market transmits information to the investor in the processed form of a market price, we can assume that an investor relies on public misstatements whenever he buys or sells stock at the price set by the market.” Id. 131 S. Ct. at 2185 (internal quotations and citations omitted). In Amgen, the district court held, and the Ninth Circuit affirmed, that Connecticut Retirement successfully showed that it was entitled to utilize the fraud-on-the-market presumption. See Connecticut Retirement Plans and Trust Funds v. Amgen Inc., No. CV 07-2536, 2009 U.S. Dist. LEXIS 71653, at *36 (Aug. 12, 2009), aff’d, Connecticut Retirement Plans and Trust Funds v. Amgen Inc., 660 F.3d 1170, 1177 (9th Cir.2011).

The Ninth Circuit’s Analysis

In its Rule 23(f) appeal to the Ninth Circuit, Amgen argued that Connecticut Retirement failed to satisfy its burden under Rule 23(b)(3) “because it did not prove that Amgen’s supposedly false statements were material.” Amgen, 660 F.3d at 1175 (emphasis in original). The court summarized Amgen’s contentions as follows: “If [the alleged misrepresentations] were immaterial, . . . they by definition would not affect Amgen’s stock price in an efficient market, and thus no buyer could claim to have been misled by an artificially inflated stock price. Thus, Amgen concludes, each individual plaintiff would be left to prove reliance at trial individually – making a class proceeding unwieldy.” Id. (emphasis in original). In rejecting this argument, the court explained:

[B]ecause materiality is an element of the merits of their securities fraud claim, the plaintiffs cannot both fail to prove materiality yet still have a viable claim for which they would need to prove reliance individually. If the misrepresentations turn out to be material, then the fraud-on-the-market presumption makes the reliance issue common to the class, and class treatment is appropriate. But if the misrepresentations turn out to be immaterial, then every plaintiff's claim fails on the merits (materiality being a standalone merits element), and there would be no need for a trial on each plaintiff's individual reliance. Either way, the plaintiffs’ claims stand or fall together – the critical question in the Rule 23 inquiry

Id. (emphasis in original).

For these reasons, the Ninth Circuit joined the Third and Seventh Circuits in holding that, to invoke the fraud-in-the-market presumption at the class certification stage, a Rule 10b-5 plaintiff need not prove that the alleged misrepresentations were material. Rather, a plaintiff need only “(1) show that the security in question was traded in an efficient market” and “(2) show that the alleged misrepresentations were public.” Id. at 1172. The court parted ways with the Third Circuit, however, in holding that “rebuttal of the fraud-on-the-market presumption, at least by showing that the alleged misrepresentations were not material, is a matter for trial or summary judgment, not a matter to be taken up in a class certification motion.” Id.

Amgen’s Petition for Writ of Certiorari

Given the current split among the Circuits on these issues, it is not surprising that the Supreme Court granted Amgen’s petition for writ of certiorari. While the Ninth, Seventh, and Third Circuits agree that a 10b-5 plaintiff should not be required to prove materiality to invoke the fraud-on-the-market presumption of reliance, the Second and Fifth Circuits have held to the contrary. Unlike the Ninth and Seventh Circuits, however, the Third Circuit allows defendants to rebut the presumption with evidence that an allegedly false statement “did not affect the market price” of the stock. See In re DVI, Inc. Securities Litigation, 639 F.3d 623, 636-37 (3d Cir. 2011).

In Halliburton, the court held that a plaintiff need not prove the element of loss causation in order to invoke the fraud-on-the-market presumption of reliance. 131 S. Ct. at 2186.

The court also rejected Halliburton’s interpretation of the lower court’s opinion as requiring proof of “price impact” – that “the alleged misrepresentations affected the market price in the first place” – not loss causation. Id. at 2186-87.

In its opposition to Amgen’s cert petition, Connecticut Retirement argued that Amgen seeks the adoption of the same “price impact” test rejected in Halliburton and that it does so by conflating the concepts of price impact and materiality. See Connecticut Retirement Opp. Br. at 24-25. According to Connecticut Retirement, Amgen “contends that it should be permitted to ‘disprov[e] the materiality of the alleged misrepresentation’ by establishing that the misrepresentation did not impact the market price of the security,” id. at 21, and that such a price impact test is the type of bright-line rule of materiality that the court rejected in Matrixx Initiatives, Inc. v. Siracusano, 131 S. Ct. 1309, 1318-19 (2011). See Connecticut Retirement Opp. Br. at 16-17. As Connecticut Retirement explained: “Lack of price impact may be one indication of lack of materiality, but lack of price impact may result from other factors unrelated to materiality: a lack of price impact is not dispositive on the question of materiality, which requires a far broader inquiry.” Id. at 21; see also id. at 24-25. Quoting the Third Circuit, Connecticut Retirement pointed out that “the lack of price impact ‘may undercut the general claim of market inefficiency or demonstrate market inefficiency relating to the securities in issue.’” Id. at 21 (quoting DVI, 639 F.3d at 637).

Although Amgen has denied that it contends that proof of price impact is the only way to show materiality, see Amgen Reply Br. at 2, Connecticut Retirement likely will make this argument in opposition to Amgen’s appeal. And even though Amgen avoids using the term “price impact” in its questions for review, the court will need to address the issue of whether a defendant may use evidence of a lack of price impact to rebut the fraud-on-the-market presumption. Whatever the reason for a lack of price impact – whether due to an absence of materiality or to market inefficiency – it is nonetheless inconsistent with the fraud-on-the-market theory. Therefore, the court need not use “price impact” as a bright-line rule of materiality in allowing defendants to use such evidence at the class certification stage. Instead, consistent with the Third Circuit’s decision in DVI, the court may decline to require plaintiffs to prove materiality to invoke the fraud-on-the-market presumption but allow defendants to rebut the presumption with lack of price impact evidence.

Robert L. Hickok and Gay Parks Rainville

The material in this publication was created as of the date set forth above and is based on laws, court decisions, administrative rulings and congressional materials that existed at that time, and should not be construed as legal advice or legal opinions on specific facts. The information in this publication is not intended to create, and the transmission and receipt of it does not constitute, a lawyer-client relationship.