Federal Court Rejects Mutual Fund Prospectus Liability Claims: Plaintiffs Cannot Prove Causation Because Alleged Misrepresentations Have No Effect on Fund Share Price


Applying reasoning that could sharply narrow the ability of plaintiffs’ lawyers to bring prospectus liability claims against mutual funds and their advisers and directors, the United States District Court for the Southern District of New York on March 31, 2011 dismissed a class action complaint against State Street Corporation that alleged the SSgA Yield Plus Fund’s prospectus misled investors about the Fund’s “subprime” mortgage exposure in violation of Sections 11 and 12(a)(2) of the Securities Act of 1933. The court held that the plaintiffs could not establish a causal connection between the alleged misrepresentations in the prospectus and a drop in the fund’s share price. Since the price of open-end mutual fund shares is always equal to net asset value, an alleged misstatement or omission in fund disclosures cannot artificially inflate or deflate the price at which investors buy or sell: plaintiffs simply cannot logically connect the dots between the document and any damages.

In Yu v. State Street Corporation, the plaintiffs alleged that the Yield Plus Fund’s prospectus and Statements of Additional Information did not accurately describe the Fund’s investment objectives or the extent of its holdings in mortgage-related securities. According to the complaint, the Fund’s underperformance in 2007-2008 resulted from exposure to mortgage-related instruments. The plaintiffs claimed that their investment losses were “caused” by the “undisclosed risk” associated with the scope of the Fund’s mortgage-related holdings.

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