Second Circuit Rejects the “Listing Theory” Under Morrison

by Dorsey & Whitney LLP

At the end of last month the Second Circuit clarified its position on the application of Morrison v. National Australia Bank Ltd., 130 S. Ct. 2869 (2010) to RICO. Now the Circuit Court had resolved an open question regarding the application of the Supreme Court’s decision to securities transactions under what has come to be called the “listing theory.” City of Pontiac Policemen’s and Firemen’s Retirement System v. UBS AG, No. 12-4355-cv (2nd Cir. Decided May 6, 2014).

The “listing theory” comes into play where a stock is listed on a U.S. exchange and a foreign exchange. Those advocating the theory contend that since the stock is traded on both exchanges Morrison does not bar recovery for claims based on transactions on either since the decision only applies to securities “not listed on domestic exchanges.” A related argument contends that if the order for the stock is placed in the United States, but executed on a foreign exchange, recovery is not barred by Morrison. The Second Circuit rejected both claims.

The claims here are against UBS whose shares are listed on a Swiss exchange and the New York Stock Exchange. The complaint centers on the failure of UBS to disclose that it accumulated and overvalued $100 billion in residential mortgage backed securities and collateralized debt obligations between February 13, 2006 and April 23, 2008.

This accumulation began in 2006 with the launch of Dillon Read Capital Management as an internal hedge fund. Plaintiffs claim that Dillon Read began acquiring billions of dollars worth of RMBS and CDOs which added to pressure to grow IB Fixed Income. IB thus began acquiring the same type of assets on a larger scale. Following significant write-downs on Dillon Read’s subprime portfolio UBS closed it and reintegrated the $20 billion portfolio into the IB. Ultimately the portfolio, was written down by $48 billion. This was in contravention of disclosed risk policies and concealed from shareholders.

The District Court dismissed the shareholder claims on the foreign exchanges based on Morrison and other allegations for failing to properly state a cause of action. .

The Supreme Court made it clear that Exchange Act Section 10(b) does not provide a cause of action to foreign plaintiffs suing foreign defendants for misconduct in connection with securities traded n foreign exchanges – a so-called “foreign cubed” claim. Plaintiffs’ reliance here on the listing theory to delimit the application of Morrison is misplaced, the Circuit Court concluded.

In Morrison the Supreme Court was concerned with the location of the securities transaction, not the location of the exchange where a security may have a dual listing. “Morrison’s emphasis on ‘transactions in securities listed on domestic exchanges,’ makes clear that the focus of both prongs was domestic transactions of any kind, with the domestic listing acting as a proxy for a domestic transaction. Indeed, the Supreme Court explicitly rejected the notion that the ‘national public interest pertains to transactions conducted on foreign exchanges and markets.’”

The fact that Morrison precludes extending the Exchange Act to transactions for dual registered stocks on foreign exchanges is fortified by the fact that the Supreme Court rejected the Circuit Court’s prior conclusion that the statute applied to “transactions regarding stocks traded in the United States which are effected outside the United States . . . ‘” the Second Circuit noted. Accordingly, the conclusion of the District Court that these claims should be dismissed is affirmed.

The Court also rejected the contention that placing an order for the purchase of a security in the United States is sufficient even though the transaction was effected on a Swiss exchange – a “foreign squared” transaction. Under Absolute Activist Value Master Fund Lt. v. Ficeto, 667 F. 3d 60 (2nd Cir. 2012) a transaction is domestic under Morrison if the parties incur irrevocable liability to carry out the transaction in the U.S.

Here the question is whether simply placing the order in the U.S. is sufficient. Plaintiffs argue that where a U.S. purchaser places the order in this country there is an irrevocable liability that is sufficient. Citizenship or residency is not the issue however. The fact that the purchaser is a U.S. citizen is not of consequence. Likewise, the fact that the purchaser placed a buy order in the U.S. for execution on a foreign exchange, standing alone, is insufficient to bring the transaction within the reach of the Exchange Act. Again the conclusion of the District Court dismissing the claim is affirmed.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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