James K. Goldfarb and Michael V. Rella
James K. Goldfarb and Michael V. Rella ()

Halliburton II, soon to be decided by the U.S. Supreme Court, has sparked speculation about the future of the “fraud on the market” presumption of reliance in private, civil federal securities fraud cases based on affirmative misrepresentations. See Halliburton Co. v. Erica P. John Fund, 134 S. Ct. 636 (2013) (cert. pet. granted; argued March 5, 2014). Commentators have suggested that if the court dispatches that presumption, plaintiffs might fill the void by invoking the so-called Affiliated Ute presumption of reliance—a rebuttable presumption that arises in cases based on material omissions in breach of a duty to disclose. See Affiliated Ute Citizens of the State of Utah v. U.S., 406 U.S. 128 (1972). But plaintiffs will be hard-pressed to invoke the Affiliated Ute presumption by characterizing affirmative misrepresentation claims as omission claims. District courts in the U.S. Court of Appeals for the Second Circuit consistently have rejected that gambit.

Presumption of Reliance

In Affiliated Ute, sellers of securities sued a bank and two bank employees who had facilitated the sale of the securities by, among other things, making a market in the securities and stating in documents necessary to effect the sales that the sellers were receiving market value. The sellers claimed that the defendants violated Section 10(b) and Rule 10b-5 because the defendants knew the sellers were receiving below market value. The district court entered judgment for the plaintiffs following a trial. The U.S. Court of Appeals for the Tenth Circuit reversed because the sellers failed to show that they relied on any “positive representation or recommendation” made by the defendants. Id. at 153-154.

The Supreme Court reversed. It held that, as market makers, the bank employees had a duty to disclose to the sellers that the sellers were not receiving market value, and that the employees were in a position to gain financially from a market they had developed. Given the duty to disclose, it was of no moment that the defendants did not make positive representations or recommendations: “Under the circumstances in this case, involving primarily a failure to disclose, positive proof of reliance is not a prerequisite to recovery…. Th[e] obligation to disclose and th[e] withholding of a material fact establish the requisite element of [reliance].” Id. at 153-54.

The court has since described the Affiliated Ute rule as a rebuttable presumption that arises “if there is an omission of a material fact by one with a duty to disclose.” Stoneridge Inv. Partners v. Scientific-Atlanta, 552 U.S. 148, 159 (2008). In that circumstance, “the investor to whom the duty was owed need not provide specific proof of reliance.” Id. The court has explained the presumption in terms of practicality: “Requiring a plaintiff to show a speculative state of facts, i.e., how he would have acted if omitted material information had been disclosed…would place an unnecessarily unrealistic evidentiary burden on the Rule 10b-5 plaintiff who has traded on an impersonal market.” Basic v. Levinson, 485 U.S. 224, 245 (1988).

Class Certification

Presumptions of reliance are critical to class certification in most federal securities fraud cases. To obtain class certification in those cases, a plaintiff must satisfy the predominance requirement of Federal Rule of Civil Procedure 23. To satisfy that requirement, a plaintiff must prove by a preponderance of the evidence that common questions of law or fact predominate over questions affecting individual (putative) class members. See Fed. R. Civ. P. 23(b)(3); Teamsters Local 445 Freight Div. Pension Fund v. Bombardier, 546 F.3d 196, 202 (2d Cir. 2008). The Supreme Court has held that absent a class-wide presumption of reliance, Rule 23′s predominance requirement “would often be an insuperable barrier to class certification” because “each of the individual investors would have to prove reliance on the alleged misrepresentation.” Wal-Mart Stores v. Dukes, 131 S.Ct. 2541, 2552 n.6 (2011). Plaintiffs may satisfy the predominance requirement by successfully invoking either the fraud on the market, or the Affiliated Ute, presumption of reliance. See Stoneridge, 552 U.S. at 159.

Determining whether a federal securities fraud claim is based primarily on affirmative misrepresentations or material omissions also is critical to class certification. If the case is based primarily on material omissions, a court may presume class-wide reliance under Affiliated Ute. But if the case is based primarily on affirmative misrepresentations, a plaintiff seeking to avail itself of the fraud on the market presumption of class-wide reliance must prove by a preponderance of the evidence that, at a minimum, the subject security traded in an efficient market—a comparatively involved undertaking.

Plaintiffs attempt to avoid that undertaking by characterizing affirmative misrepresentations as omissions, particularly if the fraud on the market presumption is unavailable. But district courts in the Second Circuit have consistently rejected such repackaging. A recent decision denying class certification is illustrative. See Goodman v. Genworth Fin. Wealth Mgmt., No. 09-cv-5603, 2014 WL 1452048 (E.D.N.Y. April 15, 2014).

Recast as Omissions

In Goodman, the Eastern District of New York declined to apply the Affiliated Ute presumption of reliance because “the alleged omissions…are merely the inverse of defendants’ alleged misrepresentation.” Id. at *12. The plaintiffs, who invested money with the defendants, alleged that the defendants misrepresented the role an expert advisor would play in advising the defendants on mutual fund selection and asset allocation for their clients’ investments. The plaintiffs brought a federal securities fraud action after they learned that the expert played a much smaller role and that their investments underperformed those in which the expert had played a larger role.

On their motion for class certification, the plaintiffs attempted to invoke the Affiliated Ute presumption of reliance by arguing that the defendants failed to disclose the expert’s limited role. The court rejected the argument. It held that the supposedly omitted information was important to the plaintiffs “only because plaintiffs claim they were promised [the expert's] advice”; what the plaintiffs actually relied on were affirmative representations that the defendants would place the plaintiffs’ money in the expert-advised portfolios or portfolios that followed the expert’s recommendations. See id. The court concluded that, “although couched as failures to disclose,” the alleged omissions “merely restate plaintiffs’ core misrepresentation claim.” Id. at *12.

The court distinguished two cases in which other courts applied the Affiliated Ute presumption and certified a class. In the first case, Fogarazzo v. Lehman Bros., 263 F.R.D. 90, 95 (S.D.N.Y. 2009), the plaintiffs alleged that the defendant investment banks issued materially misleading analyst reports about certain issuers to “win or maintain lucrative banking and financial advisory work from” those issuers. The court distinguished Fogarazzo because the failure to disclose the quid pro quo “made the analys[t] reports themselves misleading.” Goodman, 2014 WL 1452048, at *13.

In the second case, In re Parmalat Securities Litigation, No. 04-cv-0030, 2008 WL 3895539 (S.D.N.Y. Aug. 21, 2008), the defendants concealed a series of fraudulent transactions that were designed to overstate the issuer’s profits and net assets by billions. The court distinguished Parmalat because the defendants in that case “failed to disclose material facts that made the reporting of certain information and transactions, although perhaps not deceptive in themselves, otherwise misleading.” Goodman, 2014 WL 1452048, at *13.

The court concluded that unlike in Fogarazzo and Parmalat, the statements in Goodman did not take on their misleading character “only when considered in conjunction with the” allegedly omitted facts. Id. at *13. Rather, as the plaintiffs alleged, the “defendants’ representations were themselves misleading.” Id. Because the case was primarily about affirmative misrepresentations, the Affiliated Ute presumption of reliance was unavailable.1

Other courts have applied similar reasoning to deny class certification motions. See Teamsters Local 445 Freight Div. Pension Fund v. Bombardier, No. 05-cv-1898, 2006 WL 2161887 (S.D.N.Y. Aug. 1, 2006), aff’d, 546 F.3d 196 (2d Cir. 2008); In re Moody’s Corp. Sec. Litig., 274 F.R.D. 480 (S.D.N.Y. 2011). Teamsters arose from the plaintiffs’ investments in mortgage-backed securities that were collateralized by mortgage loans originated by the defendants. The plaintiffs attempted to invoke the Affiliated Ute presumption of reliance at the class certification stage by arguing that the defendant issuer had failed to disclose that (i) it materially disregarded its own underwriting standards, (ii) its stated initiative to improve collateral performance would be ineffective, and (iii) its fraudulent underwriting practices caused the poor collateral performance.

The court rejected the argument. It held that the supposed omissions were “simply the flip side of the following affirmative misstatements made by” the issuer: that (i) the defendant adhered to its underwriting standards, (ii) the defendant’s initiatives were effective, and (iii) market conditions caused the certificates’ poor performance. Id. at *9.

Moody’s arose from alleged conflicts of interest in the issuer-pays rating model. The plaintiffs attempted to invoke the Affiliated Ute presumption of reliance at the class certification stage by arguing that a particular statement—Moody’s “conducted further independent and qualitative assessments of loan originator standards”—was actionable as a material omission because, in fact, Moody’s “assessments” were “a sham, wholly devoid of substance.” Id. at 494 (quoting the complaint). The court rejected the argument. It held that statements that leave a false impression about reality merely because the reality allegedly is the exact opposite of what is stated “plainly are not omissions.” Id.


A line of authority establishes that plaintiffs in private, civil federal securities fraud cases may not successfully characterize affirmative misrepresentations as omissions to invoke the Affiliated Ute presumption of reliance. That bodes ill for plaintiffs who might be tempted to invoke that presumption if the Supreme Court in Halliburton II dispatches the fraud on the market presumption. Regardless of Halliburton II’s outcome, defendants should scrutinize alleged omissions to ensure that plaintiffs do not benefit from a presumption to which they are not entitled.

James K. Goldfarb and Michael V. Rella are partners in the New York office of Murphy & McGonigle.


1. The plaintiffs did not invoke the fraud on the market presumption for affirmative misrepresentations, and the court held they could not do so because they did not identify an efficient market or market price for the subject securities. See id. at *11.