Opinion ID: 8410533
Heading Depth: 3
Heading Rank: 1

Heading: Manipulative Acts

Text: Plaintiffs first argue that they have sufficiently alleged that the exchanges engaged in manipulative conduct because the complaint specifies what manipulative acts were performed, when they took place, which defendants performed them, and their effect on the market. We agree. The complaint sufficiently alleges conduct that “can be fairly viewed as ‘manipulative or deceptive’ within the meaning of the [Exchange Act].” Santa Fe Indus, v. Green, 430 U.S. 462, 474, 97 S.Ct. 1292, 51 L.Ed.2d 480 (1977). Although manipulative conduct under § 10(b) and Rule 10b-5 is “virtually a term of art when used in connection with securities markets,” it “refers generally to practices ... that are intended to mislead investors by artificially affecting market activity.” Id. at 476, 97 S.Ct. 1292 (citation omitted). The gravamen of such a claim is the “deception of investors into believing that prices at which they purchase and sell securities are determined by the natural interplay of supply and demand, not rigged by manipulators.” Gurary v. Winehouse, 190 F.3d 37, 45 (2d Cir. 1999). Here, plaintiffs allege that the defendant exchanges created products and services for HFT firms that illicitly “rigged the market” in the firms’ favor in exchange for hundreds of millions of dollars in fees. App’x at 225. According to plaintiffs, these products and services provided HFT firms with the ability to access market data at a faster rate, obtain non-public information, and take priority over ordinary investors’ trades. Plaintiffs further allege that the exchanges failed to disclose the full impact that such products and services would have on market activity and knowingly created a false appearance of market liquidity that, unbeknownst to plaintiffs, resulted in their bids and orders not being filled at the best available prices. For example, as we have already noted, plaintiffs allege that the exchanges, without adequate disclosure, used a certain type of complex order that allowed HFT firms to place orders that remained hidden on an individual exchange until a stock reached a certain price, at which point the previously hidden orders jumped the queue ahead of the traditional orders of ordinary investors waiting to trade. According to plaintiffs, the use of these orders resulted in a system where plaintiffs “purchased and/or sold shares at artificially distorted and manipulated prices,” including by paying higher prices for stocks. App’x at 358. Plaintiffs further allege that, unbeknownst to them, the proprietary data feeds and co-location services provided HFT firms with virtually exclusive access to detailed trading data in time to “front-run” other market participants by anticipating large pending transactions, buying and driving up the prices for the stocks before those orders were placed, and forcing investors to pay more for those stocks than they otherwise would have. We think that such allegations sufficiently plead that the exchanges misled investors by providing products and services that artificially affected market activity, see Santa Fe Indus., 430 U.S. at 476, 97 S.Ct. 1292, and that permitting such a case to proceed would be consistent with the “fundamental purpose of the [Exchange] Act ... of [ensuring] full disclosure,”id at 477, 97 S.Ct. 1292 (internal quotation marks and citation omitted), and the Exchange Act’s “core concern for the welfare of long-term investors who depend on equity investments to meet their financial goals,” Regulation NMS, 70 Fed. Reg. at 37,500; see also SEC v. Zandford, 535 U.S. 813, 819, 122 S.Ct. 1899, 153 L.Ed.2d 1 (2002) (noting § 10(b) was enacted as part of an effort “to [e]nsure honest securities markets and thereby promote investor confidence” (internal quotation marks and citation omitted)), [IS] The exchanges assert that the foregoing allegations are insufficient because the plaintiffs do not allege that the exchanges themselves engaged in any manipulative “trading activity.” Appellees’ Br. at 43-46. The exchanges do not cite, and we are not aware of, any authority explicitly stating that such a claim must concern a defendant’s trading activity. Instead; § 10(b) and Rule 10b-5 prohibit “all fraudulent, schemes in connection with the purchase or sale of securities,” A. T. Brod & Co. v. Perlow, 375 F.2d 393, 397 (2d Cir. 1967), including schemes that consist of manipulative or deceptive “market activity,” see, e.g., Santa Fe Indus., 430 U.S. at 476, 97 S.Ct. 1292 (noting manipulative conduct (<refers generally to practices ... [that] artificially affect[] market activity” (emphasis added)); Wilson v. Merrill Lynch & Co., 671 F.3d 120, 130 (2d Cir. 2011) (referring to “market activity”); ATSI Commc'n, 493 F.3d at 100 (“[C]ase law in this circuit and elsewhere has required a showing that an alleged manipulator engaged in market activity aimed at deceiving investors as to how other market participants have valued a security.” (emphasis added)). Here, for the reasons described above, plaintiffs have sufficiently alleged that the exchanges engaged in conduct that manipulated market activity, including by deceiving investors into “believing that price's at which they purchase[d] and s[old] securities are determined by the natural interplay of supply and demand, not rigged by manipulators.” Gurary, 190 F.3d at 45; see also Santa Fe Indus., 430 U.S. at 476, 97 S.Ct. 1292. The exchanges also argue, and the district court found, that their alleged conduct was not manipulative or deceptive because it was disclosed to the public and approved by the SEC. In response, plaintiffs concede that the exchanges may have told ordinary investors about the existence of proprietary data feeds and co-location services, but'assert that the exchanges did not publicly disclose the full range or cumulative effect that such services would have on the market, the trading public, or the prices of securities. Plaintiffs further contend that the exchanges did not disclose, or selectively disclosed, complex order types. It is true that “the market is not misled when a transaction’s terms are fully disclosed.” Wilson, 671 F.3d at 130 (internal quotation marks, citation, and alteration omitted). But here there is a contested question of fact as to the 'extent and accuracy of the disclosure.’ We must, at this stage, accept as true the factual allegations in the complaint and draw all reasonable inferences in favor of plaintiffs, including that the exchanges failed to disclose or omitted material facts to the investing public concerning these products and services. See Litwin v. Blackstone Grp., L.P., 634 F.3d 706, 711 n.5 (2d Cir. 2011). We also note that although the SEC has approved proprietary data feeds, co-location services, and complex order types under certain .circumstances, it has challenged them under other circumstances. It is not clear based on the pleadings whether or to what extent the SEC has sanctioned the defendants’ conduct regarding the particular products and services in the . instant case. We therefore are not persuaded that the action should be dismissed on this basis. 5 Accordingly, we conclude that the plaintiffs have sufficiently pled that the exchanges misled investors by artificially affecting market activity and that the district court erred in dismissing this action on that basis. See Santa Fe Indus., 430 U.S. at 476, 97 S.Ct. 1292. 6. Primary Violator The district court also determined that the plaintiffs failed to allege that the exchanges committed “primary” violations of § 10(b) and Rule 10b-5. The district court reasoned that, although the exchanges may have enabled, and thus aided and abetted, HFT firms in manipulating the market, the law does not permit the exchanges to be held liable for simply aiding and abetting the firms’ allegedly manipulative conduct. Plaintiffs challenge this determination on appeal. The exchanges are correct that a plaintiff may not assert a private cause of action for aiding and abetting under § 10(b). Cent. Bank of Denver, N.A. v. First Interstate Bank of Denver, N.A., 511 U.S. 164, 191, 114 S.Ct. 1439, 128 L.Ed.2d 119 (1994); see also Fezzani v. Bear, Stearns & Co., 716 F.3d 18, 24 (2d Cir. 2013) (“[T]here is ,no aiding and abetting liability in private actions under Section 10(b).” (emphasis in original)). Nevertheless, “[i]n any complex securities fraud ... there are likely to be multiple violators,” Cent. Bank of Denver, 511 U.S. at 191, 114 S.Ct. 1439, and even an entity that plays a secondary role in a securities fraud case may be held liable as a primary violator, Stoneridge, 552 U.S. at 158, 166, 128 S.Ct. 761. A primary violator is an entity that has “committed a manipulative act and thereby [has] participated in a fraudulent scheme.” Fezzani, 716 F.3d at 26 (internal quotation marks, citation, and alterations omitted). The exchanges argue that we should adopt the district court’s’ reasoning that the plaintiffs, at most, have pled that the exchanges aided and abetted the HFT firms by giving them the means to commit market manipulation. It is true that if the HFT firms had not used these products and services, the plaintiffs could not have suffered their alleged harm. But the plaintiffs do not assert that the exchanges simply facilitated manipulative conduct by the HFT firms. Instead, the plaintiffs contend that the exchanges were co-participants with HFT firms in the manipulative scheme and profited by that scheme. The exchanges sold products and services during the class period that favored HFT firms and, in return, the exchanges received hundreds of millions of dollars in payments for those products and services and in fees generated by the HFT firms’ substantially increased trading volume on their exchanges. In doing so, according to plaintiffs, the exchanges “falsely reassured ordinary investors that their ‘fair and orderly’ trading platforms provided ‘transparent trading’ where all investors received market data in ‘real time,’” when instead they had misrepresented and omitted critical information about products and services they were providing and had purposefully created a “two-tiered market” in which plaintiffs were “at an informational disadvantage.” Appellants’ Reply Br. at 23 (citing App’x at 259, 261, 285). More specifically, and as we have already described, the plaintiffs allege that the exchanges’ co-location and proprietary feeds provided “HFT firms with an enhanced glimpse into what the market is doing before others who do not have similar access,” App’x at 285, and that certain exchanges failed to “include important information about how their order types worked in their regulatory filings, or fail[ed] to make the filings altogether,” which “deprived the investing public of adequate notice of order types,” App’x at 293. According to plaintiffs, these actions “caused measureable harm to investors including,. inter alia, increased opportunity costs from unexe-cuted fill orders, adverse selection and price movement bias on executed fill orders, and increased execution costs,” App’x at 294, and caused “Plaintiffs and other Class members [to] purchase[ ] and/or s[ell] shares at artificially distorted and manipulated prices,” App’x at 358, including by paying higher prices for stocks. The plaintiffs therefore have sufficiently pled that the exchanges created a fraudulent scheme that benefited HFT firms and the exchanges, sold the products and services at rates that only the HFT firms could afford, and failed to fully disclose to the investing public how those products and services could be used on their trading platforms. They allege that, in doing so, the exchanges used the HFT firms to generate hundreds of millions of dollars in fees and established a system that, unbeknownst to the plaintiffs, catered to the HFT firms at the expense of individual and institutional traders. We think that such allegations sufficiently plead that the exchanges committed manipulative acts and participated in a fraudulent scheme in violation of the Exchange Act and Rule 10b-5. See Fezzani, 716 F.3d at 26. c. Other Grounds for Dismissal The district court did not reach the exchanges’ other arguments for dismissal, such as that plaintiffs had failed to adequately allege statutory standing, loss causation, and scienter. On appeal, the parties cursorily address these issues, but without the benefit of the district court’s consideration, we decline to address them. On remand, they should be determined by the district court in the first instance.