In re Merrill Lynch Auction Rate Securities Litigation case brief

In re Merrill Lynch Auction Rate Securities Litigation United States District Court, Southern District of New York, 2010
---- F. Supp. 2d ----, 2010 WL 1257597

 

FACTS
-Class action against Merrill Lynch.  Dutch auctions held for auction rate securities.  An auction succeeded if the number of purchase orders at a particular interest rate equaled or exceeded the number of sell orders at the same rate.
-Failed if number of sell orders > buy orders.
P: alleges D engaged in scheme to manipulate ARS market to create the appearance of a functioning auction market in which auction rate securities traded in accordance with actual supply/demand.
-Merrill Lynch intervened to prevent auction failures in every auction in which it served as sole or lead dealer.
-Masked lack of investor demand for ARS, led investors to believe their investments could be readily liquidated through arm’s length sales at periodic auctions.
-D’s support bidding also allowed it to set clearing rate at each auction.
-SEC Order required D to make a description of auction practices.

Collapse of ARS Market
-D stopped supporting auctions after learning 2 other broker-dealers allowed auctions to fail.
-Since collapse, Ps have been unable to sell at par the ARS they purchased during the Class Period.

ISSUE: Did Merrill Lynch engage in a scheme to manipulate markets?

HOLDING: No.  Information was available on various sources, including website, prospectus and 2006 SEC order. 

RULESMarket Manipulation requires a P to allege 1) manipulative acts; 2) damage; 3) caused by reliance on an assumption of an efficient market free of manipulation; 4) scienter; 5) in connection with the purchase or sale of securities; 6) furthered by the D’s use of the mail or any faculty of a national securities exchange. (P did not claim)
Manipulative Conduct - Manipulation is a term of art when used in connection with securities markets.
-Term refers generally to wash sales, matched orders, or rigged prices, that are intended to mislead investors by artificially affecting market activity.
-10(b)’s broad language on its face, extends to manipulation of all kinds, whether by making false statements or otherwise.
P must show: that an alleged manipulator engaged in market activity aimed at deceiving investors as to how other market participants have valued a security.
-Such activity misleads investors into thinking that prices at which they purchase and sell securities are determined by the natural interplay of supply and demand, not rigged by manipulators.
-Market manipulation affects beliefs indirectly by creating circumstantial evidence that positive information has entered the market.
***
-It was disclosed that D could prevent failed auctions through placement of support bids in numerous publicly available documents.
-Was disclosed on website, and 2006 SEC order.Reliance-P alleging market manipulation must plead reliance on an assumption of efficient market free of manipulation.Fraud on the Market Theory is based on the premise that the market price of shares traded on well-developed markets reflects all publicly available information, and hence, any material misrepresentations.
 

ANALYSIS

-Reliance on individual Ps on integrity of the market may be presumed.
-An efficient market incorporates all publicly available information.
(Ps cannot establish this reliance due to information that was available) 

-Without a presumption of reliance, Ps must establish they directly and reasonably relied on an assumption of the efficiency of the ARS market.
-An investor may not justifiably rely on a misrepresentation if, through minimal diligence, the investor should have discovered the truth.  
-Under this standard, 10(b) liability will not be imposed when an investor’s conduct is reckless.

Result: court dismisses claim.