Professor of Law, University of Pennsylvania Law School. Much of this Article was written while the author was the T.J. Maloney Professor of Business Law, Fordham Law School, and Director of the Fordham Corporate Law Center. Copyright 2009 by Jill E. Fisch. I am grateful to Paul Miller for helpful conversations, to Jennifer Arlen, Bill Bratton, Victor Brudney, Allen Ferrell, Jesse Fried, Jeff Gordon, Marc Gross, Elizabeth Nowicki, Dan Richman, Cathy Sharkey, Richard Squire, Jane Stapleton, David Tabak, and Ben Zipursky for probing comments on earlier drafts, and to Sriram Kilapakkam, Columbia Law School LL.M. Class of 2008, for excellent research assistance. I presented earlier drafts of this Article to seminars and faculty workshops at Columbia Law School, Harvard Law School, University of California, Berkeley, School of Law, the University of Pennsylvania Law School, Fordham Law School, UCLA Law School, Boston University Law School, and Georgetown University Law Center. I received many valuable suggestions at each session.
In 2005, the U.S. Supreme Court considered the scope of the loss causation requirement in federal securities fraud litigation. In Dura pharmaceuticals, inc. v. Broudo,1 the Court explained that, in formulating the causation requirement, the lower courts should look to the common law for guidance. As the Dura Court stated, the "traditional elements of causation and loss"2 are derived from "common-law deceit and misrepresentation actions."3
Three years later, the Supreme Court decided another case involving federal securities fraud. In Stoneridge Investment Partners, LLC v. Scientific-Atlanta, Inc., the Court rejected a claim by investors against secondary defendants on the ground that the investors could not meet the reliance requirement.4 In so doing, the Court explicitly rejected an interpretation of the reliance requirement based on common law fraud. According to the Court: "Section 10(b) does not incorporate common-law fraud into federal law."5
Reliance and loss causation constitute two components of the causation requirement in federal securities fraud, a requirement that the lower courts have refined over many years based on common law tort principles.6 The very terms used by the federal courts in analyzing causation-"transaction causation" and "loss causation"-have their roots in the common law. Moreover, the incorporation of tort law into federal securities fraud extends beyond causation; most of the elements of federal securities fraud draw upon common law torts. Thus, with its two conflicting approaches, the Court has thrown into question a critical interpretive principle.
Legal realists might point to Dura and Stoneridge as evidence that the Justices' desired outcomes dominate principled legal analysis. Neither decision fully analyzes the common law principles at issue, yet both reach Page 814 the same policy outcome of restricting private litigation. In Dura, the Court drew upon tort law to reject the argument that artificial price inflation was sufficient to establish the plaintiffs' loss. In Stoneridge, the Court rejected tort law in order to dismiss claims against defendants who had not made misstatements directly to investors. Yet, legal realism fails to do justice to an underlying tension in the scope of the private right of action for federal securities fraud-a tension that, this Article claims, is properly understood as the cause of the Court's schizophrenia. Federal securities fraud is-at the same time-both like and unlike the common law torts upon which it is based. As a result, the nature of the claim and the policies it serves offer reasons both to reject and to embrace analogies to the common law.
The context of the causation requirement highlights this tension. A careful analysis of the common law reveals two important issues that the courts' causation analysis has not addressed. The first is the effect of multiple causal factors. The Supreme Court's decision in Basic inc. v. Levinson7 makes it critical to determine the effect of the fraud upon stock price, yet multiple nontortious factors also affect stock price. In considering the legal effect of these multiple causal factors, courts have failed to incorporate tort law principles that allocate responsibility in cases of indeterminate, duplicate, or overdetermined causation.
The complex causation cases in tort law reveal a critical connection between causation and harm. under the common law, tortious conduct is actionable only to the extent that it causes harm, and the plaintiff can recover only for harms resulting from the risk created by the tortious conduct. The causation requirement thus mediates between the defendant's conduct and the plaintiff's claimed injury, ensuring that there is a sufficient connection between the two to justify holding the defendant legally accountable. As a result, precise specification of the nature of the injury or harm is necessary. Harm specification has, however, received relatively little attention in the context of federal securities fraud. The Court's decision in Basic dramatically reformed the nature of private securities fraud claims, shifting the nature of recoverable harm without considering the implications of this shift. Both Dura and Stoneridge reflect the fallout from that decision.
This Article accepts the challenge posed by Dura and Stoneridge. The Article conducts the analysis referenced, but never actually performed, by the Supreme Court and applies common law tort principles to causation analysis in federal securities fraud. In so doing, the Article demonstrates that the federal courts have failed fully to utilize the extensive common law principles developed by tort theorists to address complex causation issues. The application of these principles requires a more careful specification of harm. As a result, this Article considers the question posed by the Dura Court: What constitutes an appropriate economic loss? Page 815
The extensive policy debate over private securities fraud litigation offers new reason to consider this question. Commentators have argued that the class action-the most common post-Basic form of private litigation-is largely ineffective in achieving either compensation of injured victims or deterrence of wrongful conduct, the traditional objectives of tort law. In light of these concerns, many critics have urged that private litigation be substantially reduced or eliminated. The Supreme Court's recent causation analysis can be understood as an unarticulated response to those concerns. At the same time, Basic reflects a shift away from the traditional tort context in order to address broader issues of market protection. ultimately, the applicability of common law principles and the appropriate scope of the causation requirement depend upon the extent to which this shift is defensible.
The Article begins in Part II by briefly reviewing the causation requirement in federal securities fraud and its common law roots. In Part III, the Article examines causation in common law torts, including the analysis of complex causation questions. This analysis demonstrates the critical role of harm specification. In Part IV, the Article turns to that issue, exploring the Dura Court's rejection of artificial price inflation as a legally actionable harm and considering possible alternatives. In so doing, the Article considers the crucial shift in recoverable harm effected by the Basic decision. Part V offers some thoughts on the broader policy question of the appropriate scope of the federal statutory remedy for securities fraud in light of market and other developments and demonstrates the interdependency between this question and the causation requirement.
Although federal securities fraud is a statutory claim, it functions largely like a common law tort claim.8 The federal courts have recognized an implied private right of action under section 10(b) of the Securities Exchange Act9 and SEC Rule 10b-5,10 and have used federal common law to define the contours of the cause of action.11 Thus, the elements of a federal securities fraud claim, including the causation requirement, are largely judge-made law. In 1995, however, Congress codified the loss causation requirement.12 Page 816
Causation analysis has grown in importance. Twice in the last several years, the causation requirement has made its way to the Supreme Court. In 2005, the Court addressed loss causation in Dura.15 Last term, the Court increased the significance of reliance in Stoneridge.14 Notwithstanding this attention, the parameters of the causation requirement remain unclear.
The Second Circuit's 1974 decision in Schlick v. Penn-Dixie Cement Corp.15is widely cited as the first case to formalize the causation requirement.16 In fact, several earlier cases drew upon principles of common law tort to articulate a requirement of reliance and/or causation in fact.17 List v. Fashion park, inc., for example, used the substantial-factor test of the Restatement of Torts in defining the reliance requirement.18
Schlick, however, is credited with establishing the causation requirement because the...