Academic journal article American Criminal Law Review

Securities Fraud

Academic journal article American Criminal Law Review

Securities Fraud

Article excerpt


Seven statutes regulate Federal securities transactions. (1) Congress passed the most important of these, the Securities Act of 1933 ("1933 Act") and the Securities Exchange Act of 1934 ("1934 Act"), in response to fraud in securities markets and a perceived lack of public information about the stock markets. (2) The aim of the statutes is to ensure vigorous market competition by mandating full and fair disclosure of all material information in the marketplace. (3)

Practitioners should note that this article is limited to federal securities law. Any securities law issue must be analyzed in conjunction with applicable state "blue sky" (4) laws that regulate the offering and sale of securities in each state. (5)


Both the 1933 Act and the 1934 Act prohibit various types of criminal conduct. (6) Section 10(b) of the 1934 Act, (7) Rule 10b-5 promulgated thereunder, (8) and [section] 32(a) of the 1934 Act are the sections utilized in a criminal prosecution for the purchase or sale of securities. (9)

To maintain a securities fraud cause of action under Rule 10b-5, the government must prove: (1) the existence of a substantive fraud, including material misrepresentations or omissions, schemes or artifices to defraud, or fraudulent acts, practices, or courses of business; (10) (2) the defendant perpetrated the fraud in connection with the purchase or sale of a security or in the offer or sale of a security; (11) (3) the use of interstate commerce or the mails; (12) (4) reliance by the investor, or other effect of the scheme on investors; (13) and (5) the defendant's intent to commit the prohibited act. (14)

Securities fraud causes of action may be criminal, civil, or administrative in nature. (15) The SEC can initiate civil and administrative proceedings to investigate, rectify, and prevent violations. (16) However, only the Department of Justice ("DOJ") has jurisdiction over criminal prosecutions. (17) Most criminal prosecutions result from an SEC investigation and subsequent referral to the DOJ. (18)

A. Substantive Fraud

The following subparts address two types of fraud that can be bases for securities violations: (1) Rule 10b-5 material misrepresentations and omissions and (2) insider trading. (19)

1. Material Misrepresentations and Omissions

Material misrepresentations and omissions give rise to the most common securities fraud actions. Rule 10b-5 proscribes any false statements made in connection with the purchase or sale of securities. (20) Any person "who employs a manipulative device or makes a material misstatement (or omission) on which a purchaser or seller of securities relies" may be criminally or civilly (21) liable under Rule 10b-5. (22) Once the elements of the Rule 10b-5 cause of action are met, a criminal penalty can be imposed under [section] 32(a) if the government satisfactorily proves a willful violation of the 1934 Act. (23)

Under Rule 10b-5, the elements of a civil cause of action and a criminal prosecution are similar. Both require a false statement or an omission of a material fact; however, scienter is required for criminal liability to attach. (24) For civil liability, the plaintiff must only prove reliance that is causally related to the plaintiff's injury. (25)

a. Misstatements and Omissions

In recent years the SEC and DOJ have vigorously prosecuted individuals who misrepresent or omit material information in securities filings. (26) In the landmark decision Securities Exchange Comm'n v. Texas Gulf Sulphur Co., (27) the Second Circuit defined a misrepresentation or omission as an act that conveys a false impression of the facts or is misleading. (28) The court explained that this determination is made by inquiring "into the meaning of the statement to the reasonable investor and its relationship to the truth. …

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