Chief Justice John Roberts, again showing his pragmatic treachery. 

Markets Are Efficient Enough for Justice Roberts

Noah Feldman is a Bloomberg View columnist. He is a professor of constitutional and international law at Harvard University and was a clerk to U.S. Supreme Court Justice David Souter. His books include “Cool War: The Future of Global Competition” and “Divided by God: America’s Church-State Problem -- and What We Should Do About It.”
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Class-action securities litigation survived today -- and the big news is that it was saved not just by swing-voting Justice Anthony Kennedy, but also by Chief Justice John Roberts. Roberts wrote the opinion for the court affirming the presumption that, if you bought stock in a reasonably well functioning market, you relied on material information that the market knew. The decision showed once again the realism that has cost Roberts the admiration of hard-core conservatives ever since his pragmatist treachery in upholding the individual mandate in the Affordable Care Act case.

Modern securities class actions were invented by the Supreme Court in a 1988 decision called Basic Inc. v. Levinson -- and many corporate managers and directors have detested them ever since. In essence, the court in Basic said that because securities markets are generally efficient, you can presume that anyone who buys stock at a given moment is relying on material information disseminated to that market.

The effect of this presumption was far-reaching: It created an industry of litigators who identify a false statement usually made by a corporate actor, and then bring a class-action lawsuit on behalf of anyone who bought the stock when the false statement affected the price.

The beauty of the class action -- from the standpoint of the litigator -- is that a class can be certified to exist by the courts if the parties to the class are similarly situated on the relevant dimension. Buying the stock therefore becomes sufficient to certify the class -- at which point most rational corporations will settle the lawsuit. The lawyers then clean up, because they get a portion of the total settlement.

Today's unanimous decision grew out of an attempt by Halliburton (yup, those guys) to get the justices to change the playing field. The core of Halliburton's argument was that the Basic case relied on the economic theory called the efficient capital markets hypothesis. That theory, Halliburton urged, has been modified and even abandoned by cutting-edge economists who study the market. Many markets do not incorporate information very efficiently or rapidly, Halliburton pointed out. What's more, in at least some markets, traders successfully pursue strategies that depend precisely on the market's inefficiency.

Halliburton's case was academically plausible and strategically very clever. It is the case that some of the more triumphant academic claims about market efficiency made in the 1980s have had to be modified. More important for Halliburton, the Supreme Court hates to reverse itself and generally thinks that it needs a good reason to do so. Changed understanding among scientists is one excuse that the court sometimes uses when it wants to overturn a prior holding. Most famously, the Supreme Court cited research by social scientists in Brown v. Board of Education in the course of overturning its prior holding that separate but equal didn't necessarily affect blacks negatively. Halliburton hoped that new economics would give the court a way to overturn Basic and kill the class action.

Three of the conservative justices were on board with Halliburton's efforts. In a stirring separate opinion, Justice Clarence Thomas, joined by Justices Antonin Scalia and Samuel Alito, wrote that Basic should be overturned. The court's liberals were expected to uphold securities class actions, and after oral argument, Justice Anthony Kennedy seemed to be looking for a way to preserve them as well.

The surprise, then, was not the outcome, but the author of the opinion. Chief Justice Roberts spent most of his opinion explaining that changes at the margin of academic understanding of how markets work actually don't undercut the premises of the Basic decision. Most securities markets from which class actions arise are actually pretty efficient much of the time at incorporating new information. Even if that doesn't happen instantaneously, it happens soon enough. Indeed, trading strategies that exploit inefficiencies depend, for the most part, on the overwhelming likelihood that those inefficiencies will ultimately give way to efficient pricing -- which point the trader can collect on his or her bet. Essentially, Roberts showed that Halliburton's reliance on new economics was a red herring.

Roberts did introduce one new element in the law of class-action securities litigation. Until now, it was possible for the plaintiff to get the class certified by asserting the presumption of the efficient market -- but the defendant couldn't challenge the presumption at the stage where the class was being certified. The corporate defendant had to wait until the trial itself to provide evidence showing that the false statement hadn't had an impact on price. Because most corporations settle after the class is certified, that meant the issue of "price impact" was rarely litigated.

Roberts's opinion changed the rules on a defendant's introduction of evidence that the false statement didn't affect the price. Now, defendants will be able to introduce the evidence before class certification, in order to rebut the presumption that material statements are incorporated in market price.

The $64,000 question for the future of securities class actions is whether this change in the rules of the game will have significant effect on the way the field operates. Justice Ruth Bader Ginsburg, joined by Justices Stephen Breyer and Sonia Sotomayor, wrote a brief concurrence explaining that they were joining the opinion on the understanding that the change wouldn't make much difference to securities litigation and wouldn't impose a "heavy toll" on deserving plaintiffs.

The liberals may well be right in their prediction. But this wouldn't be the first time that a pragmatic Roberts opinion joined by the liberals included the seeds of a more conservative outcome. In the landmark ACA decision, Roberts upheld the individual mandate while simultaneously allowing states to opt out of the Medicaid extension -- a course so far adopted by 24 states. The headlines said Roberts had been pragmatic, even liberal. This was partly true, but partly false. Time will tell whether Roberts's change in securities class actions will have a major impact. This time, I'm being cautious.

This column does not necessarily reflect the opinion of Bloomberg View's editorial board or Bloomberg LP, its owners and investors.

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Noah Feldman at

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