It Is Time To Give Investors Back Their Rights


Scammed investors are often shocked to discover that they face insurmountable barriers when they seek to recover their losses in court, says Jane Bryant Quinn in a February 11, 2009 article on entitled “Madoff Victims Face Grim Prospects in Court.” Investors have filed suits against “feeder funds” that, unbeknownst to investors, funneled their money to Madoff. Investors may think that the securities laws are there to help and protect them. They are mistaken. “The securities laws may be your worst enemy if you lost money in the Madoff scam,” said Ms. Quinn, adding “Those laws may turn out to be feeder fund protection acts.” The same would apply to any securities scam, including, more recently, the Stanford scam.

Ms. Quinn cites the Private Securities Litigation Reform Act of 1995 (“PSLRA”) as one of the unfair barriers keeping scammed investors out of court. This statute requires plaintiffs, in the initial complaint that is filed to begin the lawsuit, to allege “with particularity” facts supporting a “strong inference” that the defendant acted with fraudulent intent. But that is a nearly impossible thing to do at the initial stage of a lawsuit, and it is not the way it works in most lawsuits.

Typically, a plaintiff is allowed to discover and develop evidence to prove his case in a process called “discovery,” after the lawsuit is filed. Courts often assign cases to a discovery “track” of six months or more, depending on the type and complexity of the facts at issue. Perhaps not surprisingly, defendants sometimes resist being discovered and the judge has to intervene to compel the defendant to produce certain documents and information to the plaintiff. In short, plaintiffs are not required to have such evidence just to begin a lawsuit, and it is hard enough to obtain such evidence at times even under the supervision of a court. The law rightly requires someone who claims to have been scammed to ultimately prove his case at trial, but he should not have to do so before the trial and before he has an opportunity to discover facts that, no doubt, a scammer has spent a great deal of effort to conceal.

Courts have long recognized what we know intuitively, that fraud is by its nature subtle and can be accomplished by an infinite number of tricks and even, in some instances, by silence. For that reason, actual fraud is a difficult thing to prove even after court-supervised discovery. The PSLRA turns the normal process of post-filing discovery on its head to the detriment of every aggrieved investor and the benefit of every Wall Street hustler.

The PSLRA was enacted ostensibly to stem the tide of so-called “frivolous strike suits” filed in federal courts. The purpose was to protect publicly traded companies that experienced declines in their stock prices, apparently even if they tricked the investing public by “cooking the books” and misrepresenting their earnings. It was not intended to protect broker-dealers and investment advisors who are scam artists from meritorious suits brought by aggrieved investors, but it does. For that reason, it should be repealed.

Even if you are able, against all odds, to avoid dismissal under the PSLRA, Ms. Quinn points out that there are additional hurdles and barriers. One of them is a United States Supreme Court decision that protects “aiders and abetters” of securities fraud from being sued. These are the investment banks, lawyers, accountants, and others who often aid and abet major securities frauds. As Ms. Quinn notes, these people “have get-out-of-jail-free cards.”

While claims alleging violations of federal securities statutes have to be brought in federal courts, where the PSLRA is applied, such victims usually also have common law fraud claims, and other common law claims that do not require proof of fraudulent intent, such as breach of duty (including fiduciary duty) and negligence. These common law claims can be brought in state courts, where the PSLRA is not applied. As Ms. Quinn points out. however: “There’s a hitch. Class actions involving the securities law and covering more than 50 people can easily be moved by the defendants to the inhospitable federal courts. A case can be moved for other reasons ? for example, if it was filed in a different state from the one where the feeder fund has its main office.”

Ms. Quinn’s article identifies other surprising barriers and hurdles that hinder and prevent the enforcement of investor rights. As we have seen, regulation alone is not sufficient. Whether the regulators are merely inept or, as some lawmakers say, are “captives” of the interests they purport to regulate, we can all agree investors have not been protected.

Patients who were injured by medical devices are in a strangely similar predicament, as observed in yesterday’s New York Times article by Barry Meier entitled “Lawmakers Seek To Return Right To Sue Device Makers.” In February of last year, the U. S. Supreme Court issued a decision that barred patients (or their survivors) from suing makers of complex medical devices if the Food and Drug Administration approved their sale. The problem is that the Food and Drug Administration has been criticized as providing “spotty” oversight and not protecting the public the way they are supposed to. “Consumers face the worst of all possible worlds,” said David C. Vladeck, a professor at Georgetown University Law Center and a medical industry watchdog. “The F.D.A. has shown itself incapable of keeping dangerous products off the market, and now the Supreme Court has said patients can’t sue companies for redress.” Sound familiar?

But now, some members of Congress want to fix that problem. They have proposed legislation in the House and the Senate that would effectively nullify the Supreme Court ruling and allow those injured by defective medical devices to sue the manufacturer.

Injured investors also need the ability to enforce their rights in a common sense way. The experiment to deny injured investors access to the courts has not only failed, but has significantly harmed the investing public and the financial markets. The current policy of zero enforcement has led to the freezing of the credit markets, a lack of transparency, a loss of investor faith and confidence in the markets, and limited investor recourse. Even better regulation cannot keep the markets honest. We need zero tolerance of financial scams. Only unfettered access to the courts can bring that about. There was a time in the not too distant past when investors had unfettered access to the courts, and our financial markets were strong. It’s time to make our markets strong again.