Source: https://law.justia.com/cases/federal/appellate-courts/F2/542/307/25133/
Timestamp: 2019-11-16 02:30:14
Document Index: 169923364

Matched Legal Cases: ['§ 10', '§ 10', '§ 286', '§ 2', '§ 10', '§ 78', '§ 2', '§ 27', '§ 1402', '§ 105', '§ 10', '§ 7', '§ 8']

Fed. Sec. L. Rep. P 95,723jerry D. Fridrich, et al., Plaintiffs-appellees, v. J. C. Bradford, et al., Defendants-appellants, 542 F.2d 307 (6th Cir. 1976) :: Justia
Justia › US Law › Case Law › Federal Courts › Courts of Appeals › Sixth Circuit › 1976 › Fed. Sec. L. Rep. P 95,723jerry D. Fridrich, et al., Plaintiffs-appellees, v. J. C. Bradford, et al....
Fed. Sec. L. Rep. P 95,723jerry D. Fridrich, et al., Plaintiffs-appellees, v. J. C. Bradford, et al., Defendants-appellants, 542 F.2d 307 (6th Cir. 1976)
US Court of Appeals for the Sixth Circuit - 542 F.2d 307 (6th Cir. 1976) Argued Feb. 13, 1975. Decided Sept. 15, 1976
Section 10(b) of the 1934 Act does not expressly provide a civil remedy for its violation. As noted by Justice Rehnquist in Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723, 729-730, 95 S. Ct. 1917, 44 L. Ed. 2d 539 (1975), there is no indication that Congress at the time it passed the 1934 Act considered the issue of private suits under § 10(b). Nor is there any indication that the Securities and Exchange Commission, in adopting Rule 10b-5, considered private civil actions under the rule. Nevertheless, since the seminal decision in Kardon v. National Gypsum Co., 69 F. Supp. 512 (E.D. Pa. 1946), in which a private civil remedy under § 10(b) was first judicially implied, a steady expansion of that remedy by the federal courts has occurred.17
In Kardon, supra, the court found an implied cause of action under Rule 10b-5 based upon the law of torts. Citing § 286 of the Restatement of Torts, the court noted that "(T)he disregard of the command of a statute is a wrongful act and a tort." 69 F. Supp. 512, 513. The court found judicial support for its decision in Texas and Pacific Ry. v. Rigsby, 241 U.S. 33, 36 S. Ct. 482, 60 L. Ed. 874 (1916), in which the Supreme Court for the first time recognized an implied private right of action for violation of a federal regulatory statute:
241 U.S. 33, 39, 36 S. Ct. 482, 484, 60 L. Ed. 874.
Since Kardon, supra, courts have allowed a private right of recovery based upon a tort theory of liability. See, e. g., Mitchell v. Texas Gulf Sulphur Company, 446 F.2d 90, 97 (10th Cir. 1971) cert. denied 404 U.S. 1004, 92 S. Ct. 564, 30 L. Ed. 2d 558; 405 U.S. 918, 92 S. Ct. 943, 30 L. Ed. 2d 788 (1972), A. Bromberg, Securities Law: Fraud SEC Rule 10b-5, § 2.4(1) (2) at 30 (1960) (hereinafter Bromberg). Under the tort theory, while the private right of action is viewed as a necessary supplement to SEC action, cf. J. I. Case Co. v. Borak, 377 U.S. 426, 432, 84 S. Ct. 1555, 12 L. Ed. 2d 423 (1964), and as encouraging enforcement of the provisions of the Securities Exchange Act, its primary purpose is to compensate plaintiffs for damages caused by defendant's illegal acts.18
Few early cases brought under § 10(b) and Rule 10b-5 dealt with non-disclosure by insiders trading in the open market.19 Development of the law in this area is largely traceable to the "abstain or disclose rule" developed in SEC v. Texas Gulf Sulphur Co., 401 F.2d 833 (2d Cir. 1968), cert. den., 394 U.S. 976, 89 S. Ct. 1454, 22 L. Ed. 2d 756 (1969).20 This was an SEC enforcement action brought under 15 U.S.C. §§ 78u and 78aa against Texas Gulf Sulphur Co. (TGS) and thirteen individuals who, it was charged, purchased TGS stock or calls on the strength of undisclosed inside information of favorable exploratory drilling results by the company near Timmins, Ontario. Noting that an important purpose of Rule 10b-5 was to help insure that all persons trading on the securities markets have relatively equal access to material information, Judge Waterman observed:
An early effort to impose civil liability in the context of non-disclosure of inside information is found in Joseph v. Farnsworth Radio and Television Corp., 99 F. Supp. 701 (S.D.N.Y. 1951) aff'd 198 F.2d 883 (2d Cir. 1952), where District Judge Sugarman framed the issue thus:
99 F. Supp. 701, 706. In granting a defense motion to dismiss for failure to state a claim upon which relief could be granted, Judge Sugarman observed:
99 F. Supp. at 706.21
A similar result was reached, but for different reasons, in Reynolds v. Texas Gulf Sulphur Co., 309 F. Supp. 548 (D. Utah 1970), aff'd as modified, 446 F.2d 90 (10th Cir. 1971), cert. denied, 404 U.S. 1004, 92 S. Ct. 564, 30 L. Ed. 2d 754; 405 U.S. 918, 92 S. Ct. 943, 30 L. Ed. 2d 788 (1972), a private 10b-5 action arising out of the same transactions challenged by the SEC in SEC v. Texas Gulf Sulphur Co., supra. There one of the plaintiffs, Lawrence A. Karlson, sought damages for profits he claimed to have lost when he sold his TGS stock on December 11, 1963. It was established, in particular, that the defendant Fogarty, a vice-president of TGS, had purchased TGS stock prior to and after Karlson had sold his shares without publicly disclosing the inside information he possessed. Both Karlson and Fogarty had traded through a national stock exchange. The district judge noted that there was no face-to-face transaction and that Fogarty did not purchase the particular shares sold by Karlson. In denying recovery to Karlson, the district judge noted that while it was not necessary that he establish privity of contract in order to recover, it was nevertheless necessary for Karlson to prove "some causative effect":
309 F. Supp. 548, 558 (Footnote omitted).22
A different result has been indicated in Shapiro v. Merrill Lynch, Pierce, Fenner and Smith, Inc., 353 F. Supp. 264 (S.D.N.Y. 1973) aff'd, 495 F.2d 228 (2d Cir. 1974). In Shapiro, supra, plaintiffs were purchasers of common stock of Douglas Aircraft Corporation during the period of June 20-24, 1966 on the New York Stock Exchange. On June 24, 1966, public disclosure was made by Douglas of a drastic change in its financial situation which had occurred since June 7, 1966, the date of the release of its earnings report for the first five months of 1966. That report indicated a favorable earnings picture. Between June 16 and June 20 the management of Douglas learned that, contrary to the June 7 release, Douglas would be reporting substantially lower earnings for the first six months of fiscal 1966 and that there would be little or no profit for the company during that year, with substantially reduced earnings for fiscal 1967. Defendant Merrill Lynch was engaged by Douglas as a managing underwriter for a proposed offering by Douglas of $75,000,000 in convertible debentures. Presumably because of this relationship, the information of the changed earnings picture was promptly transmitted to Merrill Lynch but without public disclosure. Plaintiffs alleged that thereafter, between June 20 and June 24, 1966, Merrill Lynch and certain of its directors and employees divulged this inside information to certain of their institutional investors who, in turn, sold their Douglas common stock on the New York Stock Exchange without disclosing the inside information to the public.
353 F. Supp. 264, 278.
The Second Circuit, in affirming the district court judgment, agreed with Judge Tenney's analysis and further concluded that any argument defendants might make that their conduct did not cause plaintiffs' damage was precluded by the Supreme Court holding in Affiliated Ute Citizens v. United States, 406 U.S. 128, 92 S. Ct. 1456, 31 L. Ed. 2d 741 (1972):
The short, and we believe conclusive, answer to defendants' assertion that their conduct did not "cause" damage to plaintiffs is the "causation in fact" holding by the Supreme Court in Affiliated Ute Citizens v. United States, 406 U.S. 128, 153-54 (92 S. Ct. 1456, 31 L. Ed. 2d 741) (1972), upon the authority of which we conclude that the requisite element of causation in fact has been established here by the uncontroverted facts that defendants traded in or recommended trading in Douglas stock without disclosing material inside information which plaintiffs as reasonable investors might have considered important in making their decision to purchase Douglas stock.
We are unable to agree with the observation of the district judge in Shapiro that ". . . it is the act of trading without disclosing material inside information which causes plaintiffs' injury . . . Having breached that obligation (to abstain or disclose), the defendants are liable for plaintiffs' injuries." 353 F. Supp. 264, 278. The flaw in this logic, we conclude, is that it assumes the very injury which it then declares compensable. It does so by presupposing that the duty to disclose is absolute, and that the plaintiff is injured when the information is denied him. The duty to disclose, however, is not an absolute one, but an alternative one, that of either disclosing or abstaining from trading.23 We conceive it to be the act of trading which essentially constitutes the violation of Rule 10b-5, for it is this which brings the illicit benefit to the insider, and it is this conduct which impairs the integrity of the market and which is the target of the rule. If the insider does not trade, he has an absolute right to keep material information secret. SEC v. Texas Gulf Sulphur Co., supra, at 848. Investors must be prepared to accept the risk of trading in an open market without complete or always accurate information. Defendants' trading did not alter plaintiffs' expectations when they sold their stock, and in no way influenced plaintiffs' trading decision. See Ratner, Federal and State Roles in the Regulation of Insider Trading, 31 Bus.Law 947, 966-67 (remarks of Robert Mundheim).
Under the circumstances of this case, involving primarily a failure to disclose, positive proof of reliance is not a prerequisite to recovery. All that is necessary is that the facts withheld be material in the sense that a reasonable investor might have considered them important in the making of this decision. See Mills v. Electric Auto-Lite Co., 396 U.S. 375, 384 (90 S. Ct. 616, 24 L. Ed. 2d 593) (1970); SEC v. Texas Gulf Sulphur Co., 401 F.2d 833, 849 (CA2 1968), cert. denied sub nom. Coates v. SEC, 394 U.S. 976 (89 S. Ct. 1454, 22 L. Ed. 2d 756) (1969); 6 L. Loss, Securities Regulation 3876-880 (1969 Supp. to 2d ed. of Vol. 3); A. Bromberg, Securities Law, Fraud SEC Rule 10b-5, §§ 2.6 and 8.6 (1967). This obligation to disclose and this withholding of a material fact establish the requisite element of causation in fact. Chasins v. Smith, Barney & Co., 438 F.2d (1167) at 1172 (CA2).
406 U.S. 128, 153-54, 92 S. Ct. 1456, 1472, 31 L. Ed. 2d 741.
It is this language which the Second Circuit, in Shapiro, felt to be controlling upon it. We are unable to construe the language quoted so broadly. It was shown in Affiliated Ute that the defendant bank employees had engaged in prior business dealings with the plaintiff Indians.25 They entered into a deliberate scheme to induce the plaintiffs to sell their stock without disclosure of material facts which would have influenced the decision to sell. The resulting sales were a direct result of the scheme. Thus it comes as no surprise that the Supreme Court concluded that "(U)nder the circumstances of this case," 406 U.S. 128, 153, 92 S. Ct. 1456, 1472, 31 L. Ed. 2d 741, all that was necessary was that the information withheld be material in order to establish the requisite causation.
We recognize that in precluding recovery here, it may be argued that the deterrent impact on insider trading of a large award of damages is thereby lost. A similar argument was found unpersuasive by the Supreme Court in Bangor Punta Operations v. Bangor & A. R. Co., 417 U.S. 703, 94 S. Ct. 2578, 41 L. Ed. 2d 418 (1974). In that case, Bangor Punta Corporation sold all of its stock (98%) in a subsidiary company to Aroostook Corporation, which then assumed responsibility for the subsidiary's management and acquired additional shares to give it 99% ownership of the subsidiary. Suit was then brought by the subsidiary against Bangor Punta, alleging various acts of mismanagement during a seven year period prior to Bangor Punta's sale of the subsidiary. The Supreme Court upheld the district court dismissal of the action holding that Aroostook Corporation, the beneficiary of any recovery, was not injured by any mismanagement of the subsidiary which may have occurred.
417 U.S. 703, 717, 94 S. Ct. 2578, 2586, 41 L. Ed. 2d 418.
While we hold to the view that the private action should be compensatory, it is to be observed that in any event the 1934 Act provides a number of non-compensatory sanctions to deter insider misconduct, including SEC investigations and criminal sanctions.30 Further, the SEC may ask the federal district court, in the exercise of its equity jurisdiction under § 27 of the 1934 Act, to require an insider to disgorge any profits he may have made from his illegal trading, SEC v. Texas Gulf Sulphur Co., 446 F.2d 1301 (2d Cir. 1971), cert. denied, 404 U.S. 1005, 92 S. Ct. 561, 30 L. Ed. 2d 558 (1971), or even an amount in excess of the amount of illicit profits which the insider has made. SEC v. Shapiro, 494 F.2d 1301, 1309 (2d Cir. 1974).31 Finally, state law may provide various sanctions against insider trading.32
Finally, it has been suggested that the problem of unlimited damages can be avoided by allowing recovery to all plaintiffs who traded during the period of non-disclosure, but limiting recovery to the amount of defendants' profits from insider trading. This type of limitation has been incorporated into the proposed ALI Federal Securities Code (Tent.Draft No. 2, March 1973). In situations where the insider trades in an impersonal market on inside information, § 1402(f) (2) (B) of the proposed Code limits the damages for which he becomes liable "to the extent of the securities that the defendant sold or bought". Thus were the proposed Code in effect in this case, defendants' liability would presumably be limited to the amount by which the price of Old Line stock increased between the time they purchased and the time of public disclosure of the inside information multiplied by the number of shares defendant purchased. See Note, Limiting the Plaintiff Class: Rule 10b-5 and the Federal Securities Code, 72 Mich. L. Rev. 1398, 1428 (1974).
I concur in the result reached by the Court. However, because of the importance of defining the scope of civil liability under rule 10b-5 in an open market context and the apparent divergence of today's decision and that of the Second Circuit in Shapiro v. Merrill Lynch, Pierce, Fenner & Smith, Inc., 495 F.2d 228 (2d Cir. 1974), aff'g, 353 F. Supp. 264 (S.D.N.Y. 1972), I feel compelled to explain my reasons for joining in the Court's decision.
There is an obvious need to restrict the scope of civil liability of insiders trading in the open market. If an insider trades in a widely-held stock which is actively traded on a national market, the number of potential plaintiffs could be astronomical and the possible award of damages may be grossly disproportionate to the volume of the insider trading. The Supreme Court in Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723, 745-47, 95 S. Ct. 1917, 44 L. Ed. 2d 539 (1975), recently addressed the problem of limiting the class of potential plaintiffs in 10b-5 civil actions. The majority, in affirming the purchaser-seller requirement of Birnbaum v. Newport Steel Corp., 193 F.2d 461 (2d Cir. 1951), expressed alarm at the potentially vast number of persons who could conceivably bring civil suits under rule 10b-5 absent meaningful restrictions on the scope of the judicially-created cause of action. The Supreme Court exhorted federal courts to consider the practical implications of extending civil remedies to those who bear only a tangential relationship to the transactions giving rise to violations of rule 10b-5. 421 U.S. at 749, 95 S. Ct. 1917.
The essence of the "disclose or abstain" rule is the inherent unfairness in allowing an insider to enter the open market and trade for his own account in the securities of a corporation on the basis of material inside information " 'knowing (such information) is unavailable to those with whom he is dealing,' i. e., the investing public." SEC v. Texas Gulf Sulphur Co., 401 F.2d at 848, quoting Matter of Cady, Roberts & Co., 40 SEC 907, 912 (1961). "It is, in fact, the insider's advantage over others in trading the corporation's securities which gives rise to the duty of disclosure." Painter, 65 Colum. L. Rev. at 1384. The "disclose or abstain" rule accomplishes two salutory purposes of rule 10b-5: it insures the integrity of the marketplace and it compensates for the inequity of trading with a corporate insider who has superior access to material inside information.6 See 401 F.2d at 848.
Given the availability of the "disclose or abstain" rule to private litigants, the problem of identifying those entitled to recover for breach of that duty remains. At common law, recovery for deceit was limited to these who could show "reliance" and "privity". See generally W. Prosser, Law of Torts § 105 at 685-86, 700-02 (4th ed. 1971). Due to the impersonal nature of trading on the open market and the remedial purpose of rule 10b-5, "privity" and "reliance" as means for limiting the plaintiff class have generally fallen into disfavor. See generally Painter at 1370, 1372. Since there is no practical method for matching purchases and sales in the open market, requiring privity in the common law sense as an element of rule 10b-5 would create an insurmountable obstacle for plaintiffs.7 Reliance also has little relevance to trading in the open market where there are no face-to-face negotiations as a rule, and where non-disclosure of a material fact is often the gravamen of the complaint. See e. g., Blackie v. Barrack, 524 F.2d 891, 905-06 (9th Cir. 1975). See also Note, The Reliance Requirement In Private Actions Under SEC Rule 10b-5, 88 Harv. L. Rev. 584, 589-600 (1975).
Without reliance, however, there is no causative link between defendants' conduct and plaintiffs' investment decisions. And without at least a "semblance of privity" defendants' liability could extend to complete strangers. See Joseph v. Farnsworth Radio and Television Corp., 99 F. Supp. 701, 706 (S.D.N.Y. 1951), aff'd, 198 F.2d 883 (2d Cir. 1952). Cf. Globus v. Law Research Service, Inc., 418 F.2d 1276, 1292 (2d Cir. 1969). In Affiliated Ute Citizens v. United States, 406 U.S. 128, 153-54, 92 S. Ct. 1456, 31 L. Ed. 2d 741 (1972), the Supreme Court dispensed with the requirement of showing actual reliance where liability was grounded on the non-disclosure of a material fact by individuals in a fiduciary relationship to the plaintiffs. Where there is such a relationship, the Court indicated that all that need be shown to prove causation is "causation-in-fact" an affirmative obligation of disclosure and the withholding of material information. 406 U.S. at 153-54, 92 S. Ct. 1456. Because of the materiality of the information, the Court was willing to presume that disclosure would have affected plaintiffs' investment decisions.8 See generally Note, Reliance Under Rule 10b-5, 24 Case W. Res. L. Rev. 363, 385-88 (1973). In Shapiro the Second Circuit found Affiliated Ute controlling on the causation issue. 495 F.2d at 238. The Court reasoned that the duty of disclosure imposed on an insider who chooses to sell or recommend selling a certain stock on the basis of material inside information establishes the requisite element of causation-in-fact for those who purchased that stock during the same period. 495 F.2d at 240-41.
Securities and Exchange Commission v. James Cowdon Bradford, et al., No. 72 Civ. 4776 (S.D.N.Y. 1972)
421 U.S. 723, 737, 95 S. Ct. 1917, 1926, 44 L. Ed. 2d 539.
See Comment, Damages to Uninformed Traders for Insider Trading on Impersonal Exchanges, 74 Colum. L. Rev. 299, 304 (1974)
The Second Circuit affirmed the district court judgment in Farnsworth on a divided vote. The majority felt the judgment could be affirmed on the basis of the district judge's opinion and upon the decision in Birnbaum v. Newport Steel Corp., 193 F.2d 461 (2d Cir. 1952). We have seriously considered but have declined to place final reliance upon any claim of lack of standing within the meaning of Birnbaum, supra, or Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723, 95 S. Ct. 1917, 44 L. Ed. 2d 539 (1975). While plaintiffs were all sellers of stock in Old Line during the period of non-disclosure, none of them sold directly or indirectly to the defendants. Thus it could be argued the plaintiffs here did not possess standing to sue under § 10(b) because the wrongful activity of defendants was not "in connection with" plaintiffs' sales. While the facts here are distinguishable from those in Birnbaum and Blue Chip, we recognize that this may not end the standing issue, even then. Birnbaum excludes certain classes of investors; it does not confer standing on all other classes of investors. We agree with Justice Douglas that "Generalizations about standing to sue are largely worthless as such", Data Processing Service v. Camp, 397 U.S. 150, 151, 90 S. Ct. 827, 829, 25 L. Ed. 2d 184 (1969), and with Judge Tamm that standing to sue is "one of the most amorphous concepts in the entire domain of the public law." Scanwell Laboratories, Inc. v. Shaffer, 137 U.S.App.D.C. 371, 424 F.2d 859, 861 (1970). In one sense, our finding here that defendants' wrong caused no damage to plaintiffs amounts to a finding that that challenged action has not caused these plaintiffs "injury in fact, economic or otherwise", an essential element of standing within the meaning of Data Processing Service v. Camp, supra, 397 U.S. 150, 152, 90 S. Ct. 827, 829, 25 L. Ed. 2d 184. Again, in the sense that standing looks to the status of plaintiffs as a class of suitors, it is certainly true that our decision here, which in effect refuses to expand broadly the class of plaintiffs who may sue under Rule 10b-5, is intended to avoid many of the same dangers foreseen by Justice Rehnquist in Blue Chip Stamps, supra, 421 U.S. 723, 738-748, 95 S. Ct. 1917, 44 L. Ed. 2d 539
Karlson did not appeal the district court judgment denying him relief; therefore, the causation issue was not presented to the Tenth Circuit. One other court has in dictum addressed the problem presented here and concluded that plaintiffs trading on an impersonal market would have no cause of action under Rule 10b-5 because of the lack of any causal connection between the injury to plaintiffs and defendants' misconduct. In Financial Industrial Fund, Inc. v. McDonnell Douglas Corp., 315 F. Supp. 42 (D. Colo. 1970) rev'd on other grounds, 474 F.2d 514 (10th Cir. 1973), Judge William E. Doyle stated:
F. Supp. 42, 44
The question of causation of injury when insiders trade in the open market has generated considerable comment. See e. g., Bromberg, supra, §§ 7.4, 8.7, Painter, Inside Information: Growing Pains for the Development of Federal Corporation Law Under Rule 10b-5, 65 Colum. L. Rev. 1361, 1372, 1377-78 (1965), Painter, Federal Regulation of Insider Trading, 125 (1968), Ratner, Federal and State Roles in the Regulation of Insider Trading, 31 Bus.Law 947, 955-56 (1976), Comment, Damages to Uninformed Traders for Insider Trading on Impersonal Exchanges, 74 Colum. L. Rev. 299, 314-15, 319 (1974), Note, Limiting the Plaintiff Class: Rule 10b-5 and the Federal Securities Code, 72 Mich. L. Rev. 1398, 1423-24, 1429 (1974), Comment, Insiders' Liability Under Rule 10b-5 for the Illegal Purchase of Actively Traded Securities, 78 Yale L.J. 864, 870-872 (1969), Note, 80 Harv. L. Rev. 468, 475 (1966), Note, Civil Liability Under Section 10(b) and Rule 10b-5: A Suggestion for Replacing the Doctrine of Privity, 74 Yale L.J. 658, 675-76 (1965)
We specifically do not reach the question of availability of the remedy to open market situations where the insider trading with resultant price changes has in fact induced the plaintiffs to buy or sell to their injury. See Painter, Inside Information: Growing Pains for the Development of Federal Corporation Law Under Rule 10b-5, 65 Colum. L. Rev. 1361, 1370 (1965). Here there was no proof that defendants' insider trading had any impact whatever upon the value of Old Line stock
We express concern similar to that noted by Judge Friendly in his concurring opinion in SEC v. Texas Gulf Sulphur, supra, that broad extension of the civil remedy under Rule 10b-5 in open market cases "will lead to large judgments, payable in the last analysis by innocent investors, for the benefit of speculators and their lawyers . . ." 401 F.2d 833, 867. See also Blue Chip Stamps, supra, 421 U.S. 723, 739, 95 S. Ct. 1917, 44 L. Ed. 2d 539
In this case the defendants purchased the bulk of their shares from the inventory of their own brokerage house, J. C. Bradford & Co. They were, in effect, trading with themselves. If recovery were limited to those who actually sold Old Line stock to defendants, their own company would be the principal plaintiff. This would be an absurdity. An insider should not be immunized from liability simply because he trades through intermediaries. See Strong v. Repide, 213 U.S. 419, 29 S. Ct. 521, 53 L. Ed. 853 (1909). The real persons requiring protection are the anonymous investors whose Old Line shares were funneled to defendants through various broker-dealers
Painter, Inside Information: Growing Pains for the Development of Federal Corporation Law, 65 Colum. L. Rev. 1361, 1378 (1965).
One commentator has suggested that compensatory remedies are inappropriate where trading in the open market is concerned. Note, Limiting the Plaintiff Class: Rule 10b-5 and the Federal Securities Code, 72 Mich. L. Rev. 1398, 1492 (1974). He states that deterrence should be the goal of 10b-5 in the open market and that curbing an insider's "abuse of the market" is better left to SEC investigations and criminal sanctions. One problem with the author's suggestion is that SEC manpower is limited and the time necessary to investigate and prosecute cases which now are processed through the civil courts would, in many cases, be prohibitive. Another is the limitation on the scope of remedies available to the SEC. Although courts have ordered disgorgement of profits as "ancillary relief" in SEC injunctive actions, there is no such remedy if the Commission chooses to proceed through administrative actions against investment advisors or broker-dealers. See Ratner, Federal and State Roles in the Regulation of Insider Trading, 31 Bus.Law 947, 954-55 (Feb. 1976). Also, merely requiring an insider to disgorge the profits he made through his illegal trading may not satisfy either the deterrent or compensatory goals of rule 10b-5. Criminal sanctions are an inadequate substitute for civil proceedings because of the different standard of proof and other factors unrelated to securities regulation which make a conviction for criminal charges much more difficult to procure than a finding of civil liability. Civil liability serves both the deterrent and the compensatory functions of rule 10b-5. The prospect of a substantial money judgment is likely to cause an insider to pause and reflect before entering the market to trade on the basis of confidential information and, at the same time, bolster the confidence of investors that they need not accept the financial "risk" of trading with individuals who have superior access to inside information
Plaintiffs should not be required to prove that it was their particular stock certificates which passed through various brokerage houses and came to rest in an insider's portfolio. As the Second Circuit said in Shapiro, 495 F.2d at 239: "It would make a mockery of the 'disclose or abstain' rule if we were to permit the fortuitous matching of buy and sell orders to determine whether a duty of disclosure were violated." See also Painter, 65 Colum. L. Rev. at 1372, 1377-78. One commentator has suggested that courts have dismissed cases for "lack of privity" when their real concern was over the absence of causation between the insider's trading and the plaintiff's losses. Bromberg § 8.7(1) at 215 n. 68
Although the Court specifically does not address the question of market manipulation, if an insider's trading affects the market price to the extent of creating an artificial market in a security, subsequent investors who were induced to trade on the basis of the price change could logically establish transactional causation without reference to an insider's duty to "disclose or abstain." See Cochran v. Channing, 211 F. Supp. 239 (S.D.N.Y. 1962). See generally 88 Harv. L. Rev. at 592-96