United States Court of Appeals 

For the First Circuit 

No. 15-1080 

JOHN P. FLANNERY, 

Petitioner, 

v. 

SECURITIES & EXCHANGE COMMISSION, 

Respondent. 

No. 15-1117 

JAMES D. HOPKINS, 

Petitioner, 

v. 

SECURITIES & EXCHANGE COMMISSION, 

Respondent. 

PETITIONS FOR REVIEW OF AN ORDER OF 

THE SECURITIES AND EXCHANGE COMMISSION 

Before 

Lynch, Stahl, and Kayatta, 

Circuit Judges. 

Mark W. Pearlstein, with whom Laura McLane, Fredric D. 

Firestone, David H. Chen, and McDermott Will & Emery LLP were on 

brief, for petitioner John P. Flannery. 

John F. Sylvia, with whom Andrew N. Nathanson, Jessica C. 

Sergi, and Mintz Levin Cohn Ferris Glovsky & Popeo PC were on 
brief, for petitioner James D. Hopkins. 

 Lisa K. Helvin, Senior Counsel, with whom Michael A. Conley, 

Deputy General Counsel, John W. Avery, Deputy Solicitor, and 

Benjamin L. Schiffrin, Senior Litigation Counsel, Securities and 

Exchange Commission, were on brief, for respondent. 

 Jonathan G. Cedarbaum, Christopher Davies, Daniel Aguilar, 

John Byrnes, Wilmer Cutler Pickering Hale and Dorr LLP, Kate 

Comerford Todd, Steven P. Lehotsky, and U.S. Chamber Litigation 

Center, Inc., on brief for the Chamber of Commerce of the United 

States of America, amicus curiae in support of petitioners. 

December 8, 2015 
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LYNCH, Circuit Judge. In 2010, the United States 

Securities and Exchange Commission ("SEC" or "Commission") issued 

an Order Instituting Proceedings against two former employees of 

State Street Bank and Trust Company ("State Street"): (1) James D. 

Hopkins, a former vice president and head of North American Product 

Engineering, and (2) John P. Flannery, a former chief investment 

officer ("CIO"). The Commission alleged that during the 2007 

subprime mortgage crisis, Hopkins and Flannery "engaged in a course 

of business and made material misrepresentations and omissions 

that misled investors" about two substantially identical State 

Street–managed funds collectively known as the Limited Duration 

Bond Fund ("LDBF"). Hopkins and Flannery were charged with 

violating Section 17(a) of the Securities Act of 1933 (15 U.S.C. 

§ 77q(a)), Section 10(b) of the Securities Exchange Act of 1934 

(15 U.S.C. § 78j(b)), and Exchange Act Rule 10b-5 (17 C.F.R. 

§ 240.10b-5). After an eleven-day hearing, involving nineteen 

witnesses and about five hundred exhibits, the SEC's Chief 

Administrative Law Judge ("ALJ") dismissed the proceeding, finding 

that neither Hopkins nor Flannery was responsible for, or had 

ultimate authority over, the documents at issue and that these 

documents did not contain materially false or misleading 

statements or omissions. 

The SEC Division of Enforcement ("Division") appealed 

the ALJ's decision to the Commission. In 2014, the Commission, in 
- 4 - 

a 3-2 decision, reversed the ALJ with regard to a slide that 

Hopkins used at a May 10, 2007, presentation to a group of 

investors, and two letters, dated August 2 and August 14, 2007, 

that Flannery wrote or had seen before they were sent to investors. 

See In re John P. Flannery & James D. Hopkins, Securities Act 

Release No. 9689, Exchange Act Release No. 73,840, Investment 

Company Act Release No. 31,374, 2014 WL 7145625 (Dec. 15, 2014). 

The Commission found Hopkins liable under Securities Act Section 

17(a)(1) ("Section 17(a)(1)"), Securities Exchange Act Section 

10(b) ("Section 10(b)"), and Exchange Act Rule 10b-5 ("Rule 10b5"); it found Flannery liable under Securities Act Section 17(a)(3) 

("Section 17(a)(3)"). The Commission imposed cease-and-desist 

orders on Hopkins and Flannery, suspended Hopkins and Flannery 

from association with any investment adviser or company for one 

year, imposed a $65,000 civil monetary penalty on Hopkins, and 

imposed a $6,500 civil monetary penalty on Flannery. These 

petitions for review followed. 

We conclude that the Commission's findings are not 

supported by substantial evidence. With regard to Hopkins, we 

find that the Division's materiality showing was marginal, and 

that there was not substantial evidence supporting scienter in the 

form of recklessness. With regard to Flannery, we conclude that 

at least the August 2 letter was not misleading, and therefore, as 

we explain, we need not reach the issue of whether the August 14 
- 5 - 

letter was misleading. We grant the petitions for review and 

vacate the Commission's order. 

I. 

We take the underlying facts from the record before the 

Commission. See Rizek v. SEC, 215 F.3d 157, 159 (1st Cir. 2000). 

State Street Global Advisors ("SSgA") is the investment 

management arm of State Street Corporation.1 It advises and 

manages State Street–affiliated registered mutual funds and 

unregistered collective trust funds.2 On March 1, 2002, SSgA 

created the LDBF, a combination of two unregistered fixed-income 

funds that were invested in various fixed-income products. The 

LDBF was offered and sold only to institutional investors. 

Investments in the LDBF came from three sources: first, other State 

Street funds invested directly in the LDBF; second, clients of 

internal advisory groups invested in the LDBF based on SSgA's 

recommendation to those groups; and third, independent 

institutional investors invested directly in the LDBF. 

The LDBF was heavily invested in asset-backed securities 

("ABS"), which included residential mortgage-backed securities 

("RMBS"). Until 2007, the LDBF had outperformed its benchmark 

 1 State Street is a wholly owned subsidiary of State Street 

Corporation. State Street Corporation is a publicly traded 

corporation. 

2 State Street and SSgA were used interchangeably during 

the proceeding.
- 6 - 

index. In January and February 2007, it underperformed its 

benchmark index because of its investment in certain lower-rated 

securities. April and May 2007, however, were two of the best 

months in the LDBF's history. Then, beginning in June 2007, during 

the subprime mortgage crisis, the LDBF experienced substantial 

underperformance. The Division's charges against Hopkins and 

Flannery involve communications about the LDBF that Hopkins and 

Flannery either made or were involved with in 2007. 

A. Vice President Hopkins 

Hopkins worked at State Street from 1998 until 2010, 

when he was offered retirement as a result of the SEC proceeding. 

From 2006 to 2007, he was a vice president and head of North 

American Product Engineering. During that time, Hopkins was the 

senior product engineer responsible for fixed-income funds, 

including the LDBF. He served as a liaison between the portfolio 

managers and the client-facing people, which included salespeople 

and consultant relations people. Hopkins was one of several people 

that would make presentations to potential clients. He was also 

responsible for correcting inaccuracies in LDBF "fact sheets," 

two-page quarterly documents made available to clients and 

prospective clients that showed the LDBF's strategy and 

performance numbers. Apart from the SEC charges, Hopkins worked 

in the securities industry for thirty-five years with an 

unblemished record. 
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SSgA used a standard PowerPoint presentation when 

presenting information about the LDBF. In 2006 and 2007, this 

presentation included a slide titled "Typical Portfolio Exposures 

and Characteristics -- Limited Duration Bond Strategy" ("Typical 

Portfolio Slide"). We describe the slide: 

Under the slide title, it read: 

 Exposure to non-correlated fixed income 

asset classes 

 High quality 

 No interest rate risk 

Below, it had a box containing the following table: 

 Limited Duration 

 Bond Fund 

Average quality AA 

Modified adjusted duration 0.09 years 

Yield over One Month LIBOR 50 bps 

Average life 2.5 years 

It then had a heading "Breakdown by market value" and contained 

two bar graphs. The graph on the left was titled "By sector" and 

contained the following information: 

 ABS: 55% 

 CMBS: 25% 

 MBS: 10% 

 Agency: 5% 

 Corporates: 0% 

 Cash: 5% 

The graph on the right was titled "By quality" and contained the 

following information: 

 AAA: 45% 

 AA: 40% 
- 8 - 

 A: 10% 

 BBB: 5% 

 Importantly, the Typical Portfolio Slide portrayed 

percentages for both sector allocations and quality of 

investments. It is the sector allocations (going to 

diversification) which disturb the SEC. The typical sector 

allocation graph showed that the LDBF was 55% invested in ABS, 25% 

invested in commercial mortgage-backed securities ("CMBS"), and 

10% invested in mortgage-backed securities ("MBS"). In 2006 and 

2007, the LDBF's actual investment in ABS reached 80% to nearly 

100%. One expert testified that along with "Conditional Value at 

Risk," credit ratings are used to determine the risk of a portfolio 

like the LDBF. 

 Hopkins did not update the Typical Portfolio Slide's 

sector breakdown from at least December 2006 through the summer of 

2007. He would, however, bring notes on the actual investments 

when he made presentations, but he did not necessarily discuss the 

information in his notes if it did not come up in a question. 

Hopkins used the Typical Portfolio Slide at several presentations. 

He did not recall ever being asked a question about the LDBF's 

actual portfolio composition, including at the specific 

presentation next described. 

On May 10, 2007, Hopkins made a presentation to the 

National Jewish Medical and Research Center ("NJC"), which was a 
- 9 - 

client of Yanni Partners, an institutional investment consulting 

firm. David Hammerstein, Yanni Partners' chief strategist, who 

was at the meeting, testified that Hopkins presented the Typical 

Portfolio Slide. According to Hammerstein, Hopkins used the slide 

to demonstrate that the LDBF was of very high quality and 

diversified. It is true the Typical Portfolio Slide labeled the 

LDBF as "high quality." 

The Division alleged that Hopkins violated Section 

17(a), Section 10(b), and Rule 10b-5 in several ways, including by 

being responsible for and using fact sheets that contained false 

and misleading information; by misleading investors with the 

Typical Portfolio Slide; by failing to update a slide that stated 

the LDBF had reduced its exposure to the index of lower-rated 

securities that had contributed to the January and February 2007 

underperformance; and by making or acting negligently in 

connection with materially misleading statements in two different 

letters. The ALJ found that Hopkins was not responsible for the 

documents at issue and that he did not make any material 

misrepresentations or omissions. 

After the Division appealed the ALJ's decision 

dismissing the proceeding, the Commission found that the Typical 

Portfolio Slide included material misrepresentations that Hopkins 

knew were misleading and that he "made" the misrepresentations in 

the slide, at least with regard to the May 10, 2007, presentation 
- 10 - 

to the NJC. The Commission held Hopkins liable for this 

presentation under Section 17(a)(1), Section 10(b), and Rule 10b5. See 15 U.S.C. § 77q(a)(1); 15 U.S.C. § 78j(b); 17 C.F.R. 

§ 240.10b-5. 

B. CIO Flannery 

Flannery joined SSgA in 1996 as a product engineer. In 

2005, he became SSgA's Fixed Income CIO for the Americas. As CIO, 

Flannery had general supervisory oversight for SSgA's operations. 

However, he was not involved in the LDBF's investment decisions or 

its daily management. Flannery worked at SSgA until his position 

was eliminated in 2007. Before joining SSgA, Flannery had worked 

in the fixed-income area for about sixteen years, first in bond 

sales, then in managing fixed-income investments. He had an 

unblemished record in the industry and a reputation for being very 

honest and having a great deal of integrity. 

In May 2006, Flannery expressed that he was concerned 

about mortgage risk in the real estate market and requested SSgA's 

fixed-income team to provide him with an analysis on the subject. 

After the LDBF began underperforming in June 2007, Flannery 

requested on June 25, 2007, that members of SSgA's management team 

and a member of its risk team re-examine the subprime market. That 

day, the head of Global Structured Projects gave Flannery a 

memorandum that stated, "[w]e remain constructive on the 

fundamentals" and that foreclosures were lower than the 10-year 
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average except in California and the Rust Belt states. The 

memorandum indicated that "we think there will be continued 

weakness in certain parts of the country . . . but we don't believe 

there is an imminent 'melt down' scenario. Subprime borrowers 

need loans, lenders are making loans, the street continues to fund 

these loans via the securitization market, and we expect this to 

continue going forward." 

By the end of July 2007, as the subprime crisis worsened, 

Flannery became personally involved with managing the LDBF and had 

daily contact with the SSgA risk team during the summer and fall 

of 2007. He filled in as chair at a July 25, 2007, SSgA Investment 

Committee meeting. According to meeting minutes, Flannery 

discussed two ways to provide liquidity if clients wanted to leave 

the LDBF: (1) by selling the LDBF's top-rated (AAA) bonds; or (2) 

by selling a pro-rata share of assets across the portfolio. 

Flannery noted that although AAA-rated bonds were liquid, if the 

liquidity gained from the sales were siphoned off, then they would 

be left with a lower quality portfolio. After discussion among 

the meeting's participants, the Investment Committee decided on an 

approach incorporating both options, where they would increase 

liquidity in the fund and sell a pro-rata share of assets to cover 

any withdrawals from the fund. The committee also agreed to reduce 

the LDBF's exposure to AA-rated assets. In the two days following 

the July 25 meeting, the portfolio management team sold about $1.6 
- 12 - 

billion in AAA-rated bonds and $200 million in AA-rated bonds, 

which paid for investor redemptions and repurchase commitments. 

These transactions caused the LDBF's portfolio composition to 

change from approximately 48% investment in AAA-rated securities 

to less than 5%, and from 46% investment in AA-rated securities to 

more than 80%. 

1. August 2, 2007, Letter (Not From Flannery) 

On August 2, 2007, Relationship Management sent a letter 

to clients in at least twenty-two fixed-income funds, signed by 

the individual Relationship Managers and including fund specific 

performance information. A draft of this letter had been sent to 

the legal department as well as several people to review. Flannery 

had also received a draft, and he made a number of edits, some of 

which stayed in the final version. However, Flannery had not been 

included on several e-mail exchanges related to edits on the letter 

prior to its distribution. The final version of the letter 

included the following paragraph: 

We believe that what has occurred in the 

subprime mortgage market to date this year has 

been more driven by liquidity and leverage 

issues than long term fundamentals. 

Additionally, the downdraft in valuations has 

had a significant impact on the risk profile 

of our portfolios, prompting us to take steps 

to seek to reduce risk across the affected 

portfolios. To date, in the Limited Duration 

Bond Strategy, we have reduced a significant 

portion of our BBB-rated securities and we 

have sold a significant amount of our AAArated cash positions. Additionally, AAA-rated 
- 13 - 

exposure has been reduced as some total return 

swaps rolled off at month end. Throughout 

this period, the Strategy has maintained and 

continues to be AA in average credit quality 

according to SSgA's internal portfolio 

analytics. The actions we have taken to date 

in the Limited Duration Bond Strategy 

simultaneously reduced risk in other SSgA 

active fixed income and active derivativebased strategies. 

 2. August 14, 2007, Letter (From Flannery) 

 On August 14, 2007, Flannery sent a letter to LDBF 

investors, in an attempt to explain what was taking place in the 

housing-related securities market. Flannery was normally not 

responsible for client communications, and the Chief Executive 

Officer ("CEO") of SSgA said it would not be a good idea, asking 

why Flannery would want to "raise [his] head up." Flannery 

understood the CEO to be saying that "this [was] kind of an ugly 

situation . . . why stand up and take a bullet," but Flannery wrote 

the letter because he thought it was "the right thing to do." 

Flannery said that "up to the limits that [he] was given by legal, 

[he] wanted to take responsibility for this disaster . . . and . . . 

to tell something of the arc of the story to put it in context." 

He said he "wanted to be as just completely straightforward as 

[he] could be." The draft of the letter Flannery prepared included 

the following paragraph: 

The situation is extreme and difficult to 

manage. While we believe that the subprime 

markets clearly convey far greater risk than 

they have historically[,] we feel that forced 
- 14 - 

selling in this chaotic and illiquid market is 

unwise. Even if mortgage delinquencies soar 

beyond our expectations we would expect 

significantly higher values for our sub-prime 

holdings. While recent events may have 

repriced the risk of these assets for the 

foreseeable future and it is unlikely that 

they will retrace to values at the turn of the 

year we believe that liquidity will slowly reenter the market and the segment will regain 

its footing. While we will continue to 

liquidate assets for our clients when they 

demand it, our advice is to hold the positions 

for now. 

The last sentence was then edited to read, "While we will continue 

to liquidate assets for our clients when they demand it, our advice 

is to hold the positions in anticipation of greater liquidity in 

the months to come." Deputy General Counsel Mark Duggan revised 

that sentence to read, "While we will continue to liquidate assets 

for our clients when they demand it, we believe that many judicious 

investors will hold the positions in anticipation of greater 

liquidity in the months to come." Flannery kept Duggan's change 

because Flannery believed both his original language and the 

revised language were accurate. In addition to Duggan, a number 

of people reviewed the letter, including the co-heads of 

Relationship Management, SSgA's president and CEO, and outside 

legal counsel. 

 3. SEC Proceeding 

In the Division's appeal of the ALJ's decision, the 

Commission held Flannery liable under Section 17(a)(3) for 
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misleading statements in both the August 2 and August 14 letters. 

With regard to the August 2 letter, the Commission found the 

statement that SSgA reduced its risk in part by selling "a 

significant amount" of its "AAA-rated cash positions" was 

"misleading because LDBF's sale of the AAA-rated securities did 

not reduce risk in the fund. Rather, the sale ultimately increased 

both the fund's credit risk and its liquidity risk because the 

securities that remained in the fund had a lower credit rating and 

were less liquid than those that were sold." The Commission found 

that "even if [Flannery] did suggest minor edits to the letter 

that were never incorporated, and even if others were 'heavily 

involved' in its drafting . . . those facts . . . do not excuse 

his decision to approve misleading language." 

 With regard to the August 14 letter, the Commission found 

the "many judicious investors" language Duggan inserted was 

misleading "because it suggested that SSgA viewed holding onto the 

LDBF investment as a 'judicious' decision when, in fact, officials 

at SSgA had taken a contrary view, redeeming SSgA's own shares in 

LDBF and advising SSgA advisory group clients to redeem their 

interests, as well." The Commission found that the 

misrepresentations in both letters were material and that Flannery 

acted negligently in both cases. The SEC went on to hold, as a 

matter of law, that two misstatements were sufficient to find a 

violation of Section 17(a)(3)'s prohibition on "engag[ing] in any 
- 16 - 

. . . course of business which operates or would operate as a fraud 

or deceit upon the purchaser." We need not reach that issue of 

law. 

II. 

"The SEC's factual findings control if supported by 

substantial evidence, . . . and its orders and conclusions must 

not be 'arbitrary, capricious, an abuse of discretion, or otherwise 

not in accordance with law.'" Cody v. SEC, 693 F.3d 251, 257 (1st 

Cir. 2012) (citations omitted) (quoting 5 U.S.C. § 706(2)(A) 

(2006)). "Substantial evidence is 'such relevant evidence as a 

reasonable mind might accept as adequate to support a conclusion.'" 

Penobscot Air Servs., Ltd. v. FAA, 164 F.3d 713, 718 (1st Cir. 

1999) (quoting Universal Camera Corp. v. NLRB, 340 U.S. 474, 477 

(1951)). We consider the whole record, and "[t]he substantiality 

of evidence must take into account whatever in the record fairly 

detracts from its weight." Universal Camera, 340 U.S. at 488. 

When the Commission and the ALJ "reach different 

conclusions, . . . the [ALJ]'s findings and written decision are 

simply part of the record that the reviewing court must consider 

in determining whether the [SEC]'s decision is supported by 

substantial evidence." NLRB v. Int'l Bhd. of Teamsters, Local 

251, 691 F.3d 49, 55 (1st Cir. 2012) (citing Universal Camera, 340 

U.S. at 493). Because "evidence supporting a conclusion may be 

less substantial when an impartial, experienced examiner who has 
- 17 - 

observed the witnesses and lived with the case has drawn 

conclusions different from the [Commission]'s than when [the ALJ] 

has reached the same conclusion," id. at 55 (quoting Universal 

Camera, 340 U.S. at 496), "where the [Commission] has reached a 

conclusion opposite of that of the ALJ, our review is slightly 

less deferential than it would be otherwise," id. (quoting Haas 

Elec., Inc. v. NLRB, 299 F.3d 23, 28–29 (1st Cir. 2002)). 

A. Hopkins 

Liability under Section 17(a)(1), Section 10(b), and 

Rule 10b-5 requires materiality and scienter. See SEC v. Ficken, 

546 F.3d 45, 47 (1st Cir. 2008); see also Matrixx Initiatives, 

Inc. v. Siracusano, 131 S. Ct. 1309, 1318 (2011). "[T]o fulfill 

the materiality requirement 'there must be a substantial 

likelihood that the disclosure of the omitted fact would have been 

viewed by the reasonable investor as having significantly altered 

the "total mix" of information made available.'" Basic Inc. v. 

Levinson, 485 U.S. 224, 231–32 (1988) (quoting TSC Indus., Inc. v. 

Northway, Inc., 426 U.S. 438, 449 (1976)). "Scienter is an 

intention 'to deceive, manipulate, or defraud.'" Ficken, 546 F.3d 

at 47 (quoting Ernst & Ernst v. Hochfelder, 425 U.S. 185, 194 n.12 

(1976)); see also Aaron v. SEC, 446 U.S. 680, 686 n.5 (1980). 

Hopkins concedes that scienter can be established by proving "a 

high degree of recklessness," but denies that he was reckless. 

Compare Ficken, 546 F.3d at 47 ("In this circuit, proving scienter 
- 18 - 

requires 'a showing of either conscious intent to defraud or "a 

high degree of recklessness."'" (quoting ACA Fin. Guar. Corp. v. 

Advest, Inc., 512 F.3d 46, 58 (1st Cir. 2008))), with Matrixx 

Initiatives, 131 S. Ct. at 1323 ("We have not decided whether 

recklessness suffices to fulfill the scienter requirement."). 

Questions of materiality and scienter are connected. 

City of Dearborn Heights Act 345 Police & Fire Ret. Sys. v. Waters 

Corp., 632 F.3d 751, 757 (1st Cir. 2011). "If it is questionable 

whether a fact is material or its materiality is marginal, that 

tends to undercut the argument that defendants acted with the 

requisite intent or extreme recklessness in not disclosing the 

fact." Id. 

Here, assuming the Typical Portfolio Slide was 

misleading,3 evidence supporting the Commission's finding of 

materiality was marginal. The Commission's opinion states that 

 3 While the actual investment in ABS exceeded that which 

was on the slide, the slide was clearly labeled "Typical Portfolio 

Exposures and Characteristics -- Limited Duration Bond Strategy" 

and did not purport to show the actual exposures to each sector at 

any given time. The Commission contends that the allocation the 

slide represented was still not typical during the 2006–2007 time 

period. In response to the ALJ's question of whether the sector 

breakdown "was, in fact, what existed at that time," Hopkins 

responded, "I think it probably was -- in terms of the sector 

breakdown on this page, it was not . . . what was typical." We 

assume this was an admission that the slide was misleading as to 

its "typicality." 

 We also assume that the Commission did not err in its 

finding that Hopkins in fact presented the Typical Portfolio Slide 

in his presentation to the NJC on May 10, 2007. 
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"reasonable investors would have viewed disclosure of the fact 

that, during the relevant period, LDBF's exposure to ABS was 

substantially higher than was stated in the slide as having 

significantly altered the total mix of information available to 

them." Yet the Commission identifies only one witness other than 

Hopkins relevant to this conclusion. Hammerstein, Yanni Partners' 

chief strategist,4 testified that at the May 10 meeting, Hopkins 

spoke for about thirty minutes,5 presented the Typical Portfolio 

Slide, and said that the fund was of very high quality. 

Hammerstein said that the information on the Typical Portfolio 

Slide was important to him because "[i]t led to the impression 

that the fund was well diversified, and therefore that State Street 

took steps to reduce the risks or control the risks." Hammerstein 

testified that when he later learned that the LDBF's ABS exposure 

actually approached 100 percent, he was surprised in light of the 

May 10 meeting. This led Yanni Partners to advise its clients to 

liquidate their positions in the LDBF. Hammerstein said they came 

to this conclusion because they "felt that State Street did not 

adequately inform [them] of the risks in the portfolio, and [they] 

 4 Hammerstein himself was not actually an investor. He 

was the chief strategist at Yanni Partners, which is an investment 

consulting firm that works with investors. The Commission points 

to no actual investors to support a finding of materiality. 

5 Amanda Williams, who co-presented with Hopkins, wrote in 

a note the day after the meeting that they had only about fifteen 

minutes for their presentation. 
- 20 - 

cited the example of the presentation that State Street made to 

National Jewish on May 10 when State Street stated that . . . the 

typical allocation was 55 percent to the ABS sector, but as 

recently as March 31 of 2007, the actual ABS allocation was 100 

percent." The Division presented a letter Yanni Partners sent to 

every client invested in the LDBF, signed by the field consultant 

responsible for the specific client, recommending that they 

liquidate their holdings and citing the May 10 meeting where "[t]he 

LD Bond Fund Portfolio Manager . . . did not disclose the actual 

sector exposure at the time, instead presenting 'typical' 

portfolio characteristics . . . ." 

On the other hand, the slide was clearly labeled 

"Typical." As far as Hammerstein was aware, through May 2007, 

Yanni Partners never asked SSgA for a breakdown of the LDBF's 

actual investment by sector nor was he aware of any request from 

Yanni Partners for the LDBF's audited financial statements. 

Further, the Commission has not identified any evidence in the 

record that the credit risks posed by ABS, CMBS, or MBS were 

materially different from each other,6 arguing instead that the 

 6 We also note that the LDBF's composition in terms of 

credit quality of holdings remained relatively constant, and, if 

anything, improved. The Typical Portfolio Slide represented that 

85% of the LDBF's investment was in AAA- and AA-rated bonds (45% 

and 40% respectively), while the March 31, 2007, fact sheet 

disclosed that 94.46% of its investment was in AAA- and AA-rated 

bonds (62.2% and 32.26% respectively). 
- 21 - 

percent of investment in ABS and diversification as such are 

important to investors. 

Context makes a difference. According to a report 

Hammerstein authored the day after the meeting, the meeting's 

purpose was to explain why the LDBF had underperformed in the first 

quarter of 2007 and to discuss its investment in a specific index 

that had contributed to the underperformance. The Typical 

Portfolio Slide was one slide of a presentation of at least twenty. 

Perhaps unsurprisingly, the slide was not mentioned in 

Hammerstein's report. 

Hopkins presented expert testimony from John W. Peavy 

III ("Peavy") that "[p]re-prepared documents such as . . . 

presentations . . . are not intended to present a complete picture 

of the fund," but rather serve as "starting points," after which 

due diligence is performed. Peavy explained that "a typical 

investor in an unregistered fund would understand that it could 

specifically request additional information regarding the fund."7 

And not only were clients given specific information upon request, 

information about the LDBF's actual percent of sector investment 

was available through the fact sheets and annual audited financial 

 7 Peavy also opined that "in the hundreds of . . . meetings 

and presentations [he has] attended, [he did] not recall a single 

instance in which the discussion was based solely on the content 

of material prepared beforehand or a rote reading of a PowerPoint 

presentation slide deck." 
- 22 - 

statements.8 The March 31, 2007, fact sheet, available six weeks 

prior to the May 10, 2007, presentation, included that the LDBF 

was 100% invested in ABS. The June 30, 2007, fact sheet included 

that the LDBF was 81.3% invested in ABS. These facts weigh against 

any conclusion that the Typical Portfolio Slide had "significantly 

altered the 'total mix' of information made available." Basic, 

485 U.S. at 232 (quoting TSC Indus., Inc., 426 U.S. at 449) 

(internal quotation mark omitted). 

This thin materiality showing cannot support a finding 

of scienter here.9 See Geffon v. Micrion Corp., 249 F.3d 29, 35 

(1st Cir. 2001). Hopkins testified that in his experience, 

 8 Information was also provided on SSgA's website through 

the password protected "Client's Corner" and "Consultant's Corner" 

sections. However, the information available on these parts of 

the website varied by fund and client. Hopkins presented evidence 

that during 2007, the Client's Corner section was logged into 

28,969 times by 465 unique users. Hopkins also presented evidence 

that Hammerstein was copied on an e-mail about the Client's Corner 

section of the website, but Hammerstein had no recollection of 

seeing the e-mail. 

We do not suggest that the mere availability of accurate 

information negates an inaccurate statement. Rather, when a slide 

is labeled "typical," and where a reasonable investor would not 

rely on one slide but instead would conduct due diligence when 

making an investment decision, the availability of actual and 

accurate information is relevant. 

9 Our determination is based on how a reasonable investor 

would react. Given our conclusion that the Commission abused its 

discretion in holding Hopkins liable under Section 17(a)(1), 

Section 10(b), and Rule 10b-5, we need not decide whether the level 

of sophistication of the LDBF investors would have made any 

misrepresentation immaterial. Cf. SEC v. Happ, 392 F.3d 12, 21–

23 (1st Cir. 2004). 
- 23 - 

investors did not focus on sector breakdown when making their 

investment decisions and that LDBF investors did not focus on how 

much of the LDBF investment was in ABS versus MBS.10 In fact, 

Hopkins did not recall ever discussing the Typical Portfolio Slide 

or being asked a question about the actual sector breakdown when 

presenting the slide.11 He did not update the Typical Portfolio 

Slide's sector breakdowns because he did not think the typical 

sector breakdowns were important to investors. To the extent that 

an investor would want to know the actual sector breakdowns, 

Hopkins would bring notes with "the accurate information" so that 

he could answer any questions that arose. We cannot say that these 

handwritten notes provide substantial evidence of recklessness, 

much less intentionality to mislead -- particularly in light of 

Hopkins's belief that this information was not important to 

investors. Cf. City of Dearborn Heights, 632 F.3d at 757 ("[T]he 

question of whether Defendants recklessly failed to disclose [a 

fact] is . . . intimately bound up with whether Defendants either 

actually knew or recklessly ignored that the [fact] was material 

 10 Hopkins was not alone in his belief. Lawrence J. 

Carlson, the co-head of Relationship Management at SSgA in 2007, 

testified that at least prior to the summer of 2007, he did not 

recall clients ever asking for a sector breakdown of the LDBF, and 

expert witness Peavy testified that it was common for clients "not 

to ask for holdings." 

11 Outside of the presentations, prior to the May 10 

meeting, there were at least occasional inquiries about the LDBF's 

holdings, to which Hopkins provided answers. 
- 24 - 

and nevertheless failed to disclose it." (alterations in original) 

(quoting City of Phila. v. Fleming Cos., 264 F.3d 1245, 1265 (10th 

Cir. 2001))). Given the evidence weighing against the materiality 

of the portion of the slide to which the SEC objects, we cannot 

say there is substantial evidence that Hopkins's presentation of 

a slide containing sector breakdowns labeled "typical," with notes 

of the actual sector breakdown ready at hand, constitutes "a highly 

unreasonable [action], involving not merely simple, or even 

inexcusable[] negligence, but an extreme departure from the 

standards of ordinary care . . . that is either known to [Hopkins] 

or is so obvious [Hopkins] must have been aware of it." Ficken, 

546 F.3d at 47–48 (second alteration in original) (quoting SEC v. 

Fife, 311 F.3d 1, 9–10 (1st Cir. 2002)). We conclude that the 

Commission abused its discretion in holding Hopkins liable under 

Section 17(a)(1), Section 10(b), and Rule 10b-5. 

B. Flannery 

Section 17(a)(3) deems it unlawful "for any person in 

the offer or sale of any securities . . . to engage in any 

transaction, practice, or course of business which operates or 

would operate as a fraud or deceit upon the purchaser." 15 U.S.C. 

§ 77q(a)(3). "[N]egligence is sufficient to establish liability 

under . . . § 17(a)(3)." Ficken, 546 F.3d at 47. 

The Commission concluded "that the August 2 and August 

14 letters were materially misleading, particularly when their 
- 25 - 

cumulative effect is taken into account." It found that "[w]hen 

considered together -- and as part of a larger effort to convince 

investors to remain in the poorly performing LDBF -- the letters 

misleadingly downplayed LDBF's risk and encouraged investors to 

hold onto their shares, even though SSgA's own funds and internal 

advisory group clients were fleeing the fund." We disagree. At 

the very least, the August 2 letter was not misleading -- even 

when considered with the August 14 letter -- and so there was not 

substantial evidence to support the Commission's finding that 

Flannery was "liable for having engaged in a 'course of business' 

that operated as a fraud on LDBF investors."12 

The Commission's primary reason for finding the August 

2 letter misleading was its view that the "LDBF's sale of the AAArated securities did not reduce risk in the fund. Rather, the 

sale ultimately increased both the fund's credit risk and its 

liquidity risk because the securities that remained in the fund 

had a lower credit rating and were less liquid than those that 

were sold." At the outset, we note that neither of the 

Commission's assertions -- that the sale increased the fund's 

credit risk and increased its liquidity risk -- are supported by 

substantial evidence. 

 12 In light of this conclusion, we do not reach Flannery's 

argument that the Commission's interpretation of Section 17(a)(3) 

as applying to misstatements is incorrect. 
- 26 - 

First, although credit rating alone does not necessarily 

measure a portfolio's risk, the Commission does not dispute the 

truth of the letter's statement that the LDBF maintained an average 

AA-credit quality. Second, expert testimony presented at the 

proceeding explained that the July 26 AAA-rated bond sale reduced 

risk because these bonds "entailed credit and market risk that 

were substantially greater than those of cash positions. In 

addition, a portion of the sale proceeds was used to pay down 

[repurchase agreement] loans and reduce the portfolio leverage." 

Further, testimony throughout the proceeding indicated that the 

LDBF's bond sales in July and August reduced risk by decreasing 

exposure to the subprime residential market, by reducing leverage, 

and by increasing liquidity, part of which was used to repay loans. 

To be sure, the Commission maintained that the bond 

sale's potentially beneficial effects on the fund's liquidity risk 

were immediately undermined by the "massive outflows of the sale 

proceeds . . . to early redeemers." But this reasoning falters 

for two reasons. First, the Commission acknowledged that between 

$175 and $195 million of the cash proceeds remained in the LDBF as 

of the time the letter was sent; it offered no reason, however, 

why this level of cash holdings provided an insufficient liquidity 

cushion. Second and more fundamentally, even if the Commission 

was correct that the liquidity risk in the LDBF was higher 

following the sale than it was prior to the sale, it does not 
- 27 - 

follow that the sale failed to reduce risk. Rather, to treat as 

misleading the statement in the August 2 letter that State Street 

had "reduced risk," the Commission would need to demonstrate that 

the liquidity risk in the LDBF following the sale was higher than 

it would have been in the counterfactual world in which the 

financial crisis had continued to roil -- and in which large 

numbers of investors likely would have sought redemption -- and 

the LDBF had not sold its AAA holdings. But the Commission has 

not done this. 

Independently, the Commission has misread the letter. 

The August 2 letter did not claim to have reduced risk in the LDBF. 

The letter states that "the downdraft in valuations has had a 

significant impact on the risk profile of our portfolios, prompting 

us to take steps to seek to reduce risk across the affected 

portfolios" (emphasis added). Indeed, at oral argument, the 

Commission acknowledged that there was no particular sentence in 

the letter that was inaccurate. It contends that the statement, 

"[t]he actions we have taken to date in the [LDBF] simultaneously 

reduced risk in other SSgA active fixed income and active 

derivative-based strategies," misled investors into thinking SSgA 

reduced the LDBF's risk profile. This argument ignores the word 

"other." The letter was sent to clients in at least twenty-one 

other funds, and, if anything, speaks to having reduced risk in 

funds other than the LDBF. 
- 28 - 

Even beyond that, there is not substantial evidence that 

SSgA did not "seek to reduce risk across the affected portfolios." 

As one expert testified, there are different types of risk 

associated with a fund like the LDBF, including market risk, 

liquidity risk, and credit or default risk. The LDBF was facing 

a liquidity problem, and at the July 25 meeting, Michael Wands, 

the Director of Active North American Fixed Income, explained that 

"[i]t's hard to predict if the market will hold on or if there 

will be a large number of withdrawals by clients. We need to have 

liquidity should the clients decide to withdraw." Flannery noted 

that "if [they didn't] raise liquidity [they] face[d] a greater 

unknown." Robert Pickett, the LDBF's lead portfolio manager, noted 

that selling only AAA-rated bonds would affect the LDBF's risk 

profile. After discussion of both of these concerns, the 

Investment Committee ultimately decided to increase liquidity, 

sell a pro-rata share to warrant withdrawals, and reduce AA 

exposure. And that is what it did. On July 26 and 27, 2007, 

LDBF's portfolio management team sold approximately $1.6 billion 

in AAA-rated bonds and about $200 million in AA-rated bonds; 

between approximately July 31 and August 24, 2007, it sold about 

$1.2 billion of AA-rated bonds; and on August 7 and 8, 2007, it 

sold about $100 million of A-rated bonds. The August 2 letter 

does not try to hide the sale of the AAA-rated bonds; it candidly 

acknowledges it. At the proceeding, Flannery testified that 
- 29 - 

selling AAA-rated bonds itself reduces risk, and here, in 

combination with the pro-rata sale, was intended to maintain a 

consistent risk profile for the LDBF. Pickett testified that the 

goal of the pro-rata sale was to treat all shareholders -- both 

those who exited the fund and those who remained -- as equally as 

possible and maintain the risk-characteristics of the portfolio to 

the extent possible. These actions are not inconsistent with 

trying to reduce the risk profile across the portfolios. 

Finally, we note that the Commission has failed to 

identify a single witness that supports a finding of materiality. 

Cf. SEC v. Phan, 500 F.3d 895, 910 (9th Cir. 2007) ("The SEC, which 

both bears the burden of proof and is the party moving for summary 

judgment, submitted no evidence to the district court 

demonstrating the materiality of the misstatement about the 

payment terms."). We do not think the letter was misleading, and 

we find no substantial evidence supporting a conclusion otherwise. 

We need not reach the August 14 letter.13 In its opinion, 

the Commission stated that while Section 17(a)(1) and Rule 10b5(a) & (c) "would proscribe even a single act of making or drafting 

a material misstatement to investors, Section 17(a)(3) is not 

 13 We also do not reach the defense of whether the last 

sentence of the relevant paragraph was no more than a nonactionable "opinion," protected under Omnicare, Inc. v. Laborers 

Dist. Council Constr. Indus. Pension Fund, 135 S. Ct. 1318, 1327 

(2015). 
- 30 - 

susceptible to a similar reading. Of course, one who repeatedly 

makes or drafts such misstatements over a period of time may well 

have engaged in a fraudulent 'practice' or 'course of business,' 

but not every isolated act will qualify." See also In re Anthony 

Fields, CPA, Securities Act Release No. 9727, Exchange Act Release 

No. 74,344, Investment Company Act Release No. 31,461, 2015 WL 

728005, at *10 (Feb. 20, 2015) ("[A]n isolated misstatement 

unaccompanied by other conduct does not give rise to liability 

under [Section 17(a)(3)]."). Even were we to assume that the 

August 14 letter was misleading, in light of the SEC's 

interpretation of Section 17(a)(3) and our conclusion about the 

August 2 letter, we find there is not substantial evidence to 

support the Commission's finding that Flannery engaged in a 

fraudulent "practice" or "course of business." 

III. 

For the reasons above, we grant the petitions for review 

and vacate the Commission's order.