What Is Securities Fraud?

By Buell, Samuel W. | Duke Law Journal, December 2011 | Go to article overview
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What Is Securities Fraud?

Buell, Samuel W., Duke Law Journal


As Rule 10b-5 approaches the age of seventy, deep familiarity with this supremely potent and consequential provision of American administrative law has obscured its lack of clear conceptual content. The rule, as written, interpreted, and enforced, is missing a fully developed connection to--of all things--fraud. Fraud is difficult to define. Several approaches are plausible. But the law of securities fraud, and much of the commentary about that body of law, has neither attempted such a definition nor acknowledged its necessity to the coherence and effectiveness of the doctrine.

Securities fraud's lack of mooring in a fully developed concept of fraud produces at least three costs: public and private actions are not brought on behalf of clearly specified regulatory objectives; the line between civil and criminal liability has become unacceptably blurred; and the law has come to provide at best a weak means of resolving vital public questions about wrongdoing in financial markets. The agenda of this Article is threefold. First, this Article illuminates and clarifies the relationship between securities fraud and fraud and structures a discussion of legal reform that more explicitly connects securities fraud remedies with the purposes of a regime of securities regulation. Second, it clarifies the line between civil and criminal liability. And third, this Article seeks a better understanding of what is being asked when legal actors and the public wonder whether to label an important instance of market failure "fraud. "



   I. What Is Fraud?
      A. The Question Is Hard and Important
      B. Some Axes of Fraud
      C. Mental State and Fraud
         1. Core Fraud Versus Misrepresentation
         2. Goal Versus Awareness
         3. Level of Awareness
         4. Criminal Fault

 II. What Is Securities Fraud?
      A. Structure of the Statutory and Regulatory Scheme
      B. Elements, According to the Federal Courts
      C. The Scienter Mess
         1. Private Lawsuits
         2. SEC Actions
         3. Criminal Prosecutions
      D. Insider Trading
      E. Securities Fraud Remains Undefined

III. Improving the Law of Securities Fraud
      A. Costs of the Status Quo
      B. Objectives for Reform
         1. Fraud and the Purposes of Securities Regulation
         2. The Civil-Criminal Line
         3. Capitalizing on Expressive Capital
      C. Reform Angles
         1. Amend the Statutes and Rules
         2. Repair the Doctrine in the Courts



The Securities and Exchange Commission (SEC) recently leveled a highly publicized enforcement action against the venerable investment banking and securities firm, Goldman Sachs. When the suit was filed, the headlines blared, "U.S. Charges Goldman Sachs with Fraud." (1) The theory of the case was that Goldman had sold a German bank a derivative product tied to the fate of a basket of mortgage-backed securities, while simultaneously obscuring the weaknesses of the securities in that basket. According to the SEC, Goldman obfuscated the matter by touting the role of a reputable independent firm in the selection of the underlying securities and by failing to disclose that a player who was betting against the securities was also allowed to participate in the selection process. (2)

A lively public discussion followed about whether Goldman, widely tagged as a symbol of bubble-era greed, was also crooked. Did the Goldman bankers deserve condemnation for purposely exploiting the naivete of investors, so they could profit from the sale of products that were bets on a market Goldman knew was bound to crash? (3) Although the transaction involved in the SEC's lawsuit was small by Goldman's standards, its structure implicated big questions about the culpability of global banks for inflating a market in mortgage-derived securities that was practically designed to self-destruct.

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