The Supreme Court, in effect, has challenged the Securities and Exchange Commission to do a better job of regulating investment banking.
The court’s implicit challenge came in a 7-to-1 decision that threw out a lawsuit against major Wall Street firms which arose from their initial public offering activities during the dot-com bubble.
The plaintiffs in the suit charged the investment banking firms with collusion to drive up IPO prices in the after market, and they sought treble damages.
They claimed that institutional investors who were given the opportunities to buy the IPO stocks at artificially low prices by the underwriters — to drive up the share prices — agreed in return to buy additional shares after the stock came to market.
They also claimed that the investment banking firms charged excessive commissions and provided misleading analyst recommendations about the IPO stocks’ prospects.
The court’s opinion, written by Justice Stephen Breyer, ruled that investors could not bring private antitrust suits against securities firms.
Mr. Breyer said that it was difficult for non-experts to draw a “complex sinuous line separating permitted conduct in the securities industry from forbidden conduct.” The line should be drawn by experts, he said, not by non-expert judges and juries.
That is, the line should be drawn by the experts at the SEC.
In fact, allowing plaintiffs to sue in different jurisdictions would introduce uncertainty to the financial markets which might discourage underwriters from a wide range of “joint conduct that the securities law permits or encourages.”
Financial experts and SEC officials testified that some of the joint underwriting activities challenged in the case, such as road shows and efforts to line up buyers before the date of issue, are essential to a successful IPO.
However, since the dot-com bubble, the SEC has forbidden some of the conduct at issue in the lawsuit and has brought enforcement actions against several of the investment banks.
Now the challenge for the SEC is to stay on top of innovations in the securities markets, to be aware of when Wall Street practices are in danger of crossing Mr. Breyer’s “complex sinuous line.”
The SEC is supposed to be the neutral umpire enforcing the rules of the game and keeping everything fair for investors.
It is supposed to ensure that Wall Street, which is presumed to have an information advantage over investors, does not use that advantage unfairly. In fact, Wall Street is supposed to share information with its clients to give them a fair shake in any transactions they make.
The seven Supreme Court justices who ruled in favor of the Wall Street firms clearly expect the SEC to stay on top of the industry and to blow the whistle on any practices that breach securities law or regulation, or seem likely to do so.
The SEC was behind the play in the dot-com bubble. It must not fall behind again or Congress may step in and change the law to allow others to police the securities industry.
Neither the SEC nor the industry would like that.
