The Supreme Court's institutional incompetence to decide securities fraud cases will come as no surprise to readers of this blog, as Jay Brown kindly noted:... this opinion re-affirms that the Supreme Court is often totally confused when it tries to discuss securities fraud. First Dura, now Stoneridge. With due respect to the Justices who signed on to the majority opinion in this case, the law isn?t particularly challenging in this area? either a plaintiff establishes the five/six elements necessary to prove securities fraud or she does not. Were I writing the Stoneridge opinion, and I wanted, for policy reasons, to affirm dismissal of the suit, I would have done it on the ?in connection with? element. One could argue with a straight face that S-A's and Motorola's "lies" (to wit, the fraudulent wash contracts) were not lies told "in connection with the purchase or sale of securities." Reliance, not so much.
The genesis of my take on the SCOTUS' abilities in this area goes back to an article I co-authored with my friend Mitu Gulati, How Do Judges Maximize? (The Same Way Everybody Else Does - Boundedly): Rules of Thumb in Securities Fraud Opinions. The abstract follows:... we have to hand it to Steve Bainbridge at UCLA who got this case exactly right. He noted that the Supreme Court was largely incapable of analyzing securities issues on its own. He predicted that, as a result, the Court would decide the case by largely duplicating the brief of the government. With almost all of the participants fighting over whether deceptive conduct could violate Rule 10b-5, the solicitor general's brief took the position that the case turned on the element of reliance. Guess what? Justice Kennedy's opinion turned on the issue of reliance.
Judicial opinions in securities fraud class actions frequently do not conform to standard theories of adjudication. Instead of the complex modes of legal reasoning predicted by standard models, decisions in this area commonly rely on rules of thumb-decisionmaking heuristics or shortcuts. To the extent prior literature has focused on the use of decisionmaking heuristics in adjudication, commentators have emphasized procedural shortcuts, such as the doctrine whereby courts refuse to address issues that have not been squarely argued. In contrast, the heuristics we identify are substantive law doctrinal rules of thumb enabling a judge to avoid analysis of a case's full complexities. This distinction is significant. Procedural shortcuts do not affect the evolution of substantive legal doctrines, except as to produce no doctrine. Substantive heuristics, however, not only become doctrine but can come to dominate the on-going evolution of substantive law. We suggest that the desire to avoid complexity is an important factor in explaining the emergence of a number of the newer doctrines in the securities area.
Underlying all of these doctrines are assumptions about either, (a) investor responses to information or (b) managerial responses to incentives. The standard approaches used by commentators in the area would be to explain either why the assumptions are accurate or why they are not and how they should be corrected. What we suggest, however, is that the real puzzle thus is that federal judges are claiming-at least implicitly-both a level of expertise about the workings of markets and organizations that, in some areas, not even the most sophisticated researchers in financial economics and organizational theory have reached. Federal judges, however, are far from being experts in these areas. As a group, they have little expertise on the topics of markets and organizational behavior. Further, they are consistently faced with overwhelming caseloads where only a small fraction of cases are securities cases. As a result, there is little opportunity to develop expertise in the area. Finally, judges are known to delegate much of the work of drafting their decisions to their law clerks, who are typically recent law school graduates.
Generalizing from the securities regulation context, we contend that standard theories of adjudication are flawed because they fail to adequately account for institutional constraints. Drawing on the tools of new institutional economics (bounded rationality, transaction costs, and agency costs), we tell a story about recent doctrinal developments in the lower federal courts in the area of securities class actions. The story highlights the link between doctrinal developments and the characteristics of the institutions that produce them. That story is then extended to the contexts of the Supreme Court and the Delaware state courts. Our claim is that the institutional perspective provides insights into the evolution of doctrine that today's dominant models fail to provide.