Electronic Trading Group v. Banc of America Secs.

• Decision Date: 03 December 2009
• Docket Number: Docket No. 08-0420-cv.
• Citation: 588 F.3d 128
• Parties: ELECTRONIC TRADING GROUP, LLC, on behalf of itself and all others similarly situated, Plaintiff-Appellant, v. BANC OF AMERICA SECURITIES LLC, Bear Stearns Companies, Inc., Citigroup Inc., Credit Suisse (USA) Inc., Deutsche Bank Securities, Inc., Goldman, Sachs & Co., Merrill Lynch, Pierce, Fenner & Smith Incorporated, Morgan Stanley & Co. Incorporated, UBS Financial Services, Inc., CIBC World Markets Corp., Citigroup Global Markets, Inc., Credit Suisse Securities (USA) LLC, Goldman Sachs Execution & Clearing, L.P., Morgan Stanley DW Inc., the Goldman Sachs Group, Inc., and Van Der Moolen Specialists USA, LLC, Defendants-Appellees, John Does, Daiwa America Corporation, Daiwa Securities America Inc., Bank of New York, J.P. Morgan Chase & Co., J.P. Morgan Securities Inc., and Lehman Brothers Inc., Defendants.
• Court: U.S. Court of Appeals — Second Circuit

588 F.3d 128

ELECTRONIC TRADING GROUP, LLC, on behalf of itself and all others similarly situated, Plaintiff-Appellant, v. BANC OF AMERICA SECURITIES LLC, Bear Stearns Companies, Inc., Citigroup Inc., Credit Suisse (USA) Inc., Deutsche Bank Securities, Inc., Goldman, Sachs & Co., Merrill Lynch, Pierce, Fenner & Smith Incorporated, Morgan Stanley & Co. Incorporated, UBS Financial Services, Inc., CIBC World Markets Corp., Citigroup Global Markets, Inc., Credit Suisse Securities (USA) LLC, Goldman Sachs Execution & Clearing, L.P., Morgan Stanley DW Inc., the Goldman Sachs Group, Inc., and Van Der Moolen Specialists USA, LLC, Defendants-Appellees John Does, Daiwa America Corporation, Daiwa Securities America Inc., Bank of New York, J.P. Morgan Chase & Co., J.P. Morgan Securities Inc., and Lehman Brothers Inc., Defendants.

Docket No. 08-0420-cv.

United States Court of Appeals, Second Circuit.

Argued: September 30, 2009.

Decided: December 3, 2009.

Andrew J. Entwistle, Vincent R. Cappucci, Harold F. McGuire, Jr., Arthur V. Nealon, and Stephen D. Oestreich, Entwistle & Cappucci LLP, New York, NY, for Appellant Electronic Trading Group, LLC.

Robert F. Wise, Jr., and William J. Fenrich, Davis Polk & Wardwell LLP, New York, NY, for Appellees Morgan Stanley & Co. Incorporated and Morgan Stanley DW Inc.

Richard H. Klapper and Richard C. Pepperman, II, Sullivan & Cromwell LLP, New York, NY, for Appellees Goldman, Sachs & Co., Goldman Sachs Execution & Clearing, L.P., and the Goldman Sachs Group, Inc.

Stephen L. Ratner and Harry Frischer, Proskauer Rose LLP, New York, NY, for Appellee Bear Stearns Companies, Inc.

Jay B. Kasner and Shepard Goldfein, Skadden, Arps, Slate, Meagher & Flom LLP, New York, NY, for Appellee Merrill Lynch, Pierce, Fenner & Smith Incorporated.

Jay P. Lefkowitz, Maria Ginzburg, Andrew B. Clubok, Susan E. Engel, And Eleanor R. Barrett, Kirkland & Ellis LLP, New York, N.Y. and Washington, DC, for Appellee UBS Financial Services, Inc.

Robert B. McCaw, Fraser L. Hunter, Jr., and Ali M. Stoeppelwerth, Wilmer Cutler Pickering Hale and Dorr LLP, New York, N.Y. and Washington, DC, for Appellees Citigroup Inc., Citigroup Global Markets, Inc., Credit Suisse (USA) Inc., and Credit Suisse Securities (USA) LLC.

Andrew J. Frackman and Brendan J. Dowd, O'Melveny & Myers LLP, New York, NY, for Appellee Banc of America Securities LLC.

Gregory A. Markel and Martin L. Seidel, Cadwalader, Wickersham & Taft LLP,

New York, NY, for Appellee Deutsche Bank Securities, Inc.

Daniel B. Rapport, Katherine L. Pringle, and Lisa S. Getson, Friedman Kaplan Seiler & Adelman LLP, New York, NY, for Appellee Van Der Moolen Specialists USA, LLC.

Jonathan D. Polkes, Robert F. Carangelo, and Debra J. Pearlstein, Weil, Gotshal & Manges LLP, New York, NY, for Appellee CIBC World Markets Corp.

Before: JACOBS, Chief Judge, SACK and LYNCH, Circuit Judges.

DENNIS JACOBS, Chief Judge:

In this putative class action, plaintiff-appellant Electronic Trading Group, LLC ("ETG"), a short seller, sues certain financial institutions that serve as "prime brokers" in short sale transactions.¹ It is alleged that the prime brokers arbitrarily designated certain securities as hard-to-borrow and then fixed the price for borrowing them, in violation of Section 1 of the Sherman Act, 15 U.S.C. § 1 (the "antitrust claim").² Three state law claims are also pleaded: breach of fiduciary duty, aiding and abetting breach of fiduciary duty, and unjust enrichment (collectively, the "state law claims").³

ETG appeals from a judgment of the United States District Court for the Southern District of New York (Marrero, J.), dismissing the antitrust claim with prejudice on the ground of implied preclusion of the antitrust law by the securities law, and dismissing the state law claims without prejudice to refiling in state court. We affirm.

The preclusion analysis turns on four considerations identified in Credit Suisse Securities (USA) LLC v. Billing, 551 U.S. 264, 285, 127 S.Ct. 2383, 168 L.Ed.2d 145 (2007): whether the "area of conduct [is] squarely within the heartland of securities regulations"; whether the Securities and Exchange Commission ("SEC") has "clear and adequate [] authority to regulate"; whether there is "active and ongoing agency regulation"; and whether "a serious conflict" arises between antitrust law and securities regulations.

Much depends on the level of particularity or generality at which each Billing consideration is evaluated. Obviously, if the inquiry is whether the SEC actively regulates the pricing of borrowed shares the plaintiff wins the point. By the same token, if the inquiry is whether short selling is within the heartland of securities regulations, the defendants win the point.

For the reasons set forth in this opinion, the fourth consideration—detection of a serious conflict—is evaluated at the level of the alleged anticompetitive conduct. Each of the three remaining considerations is evaluated at the level most useful to the court in achieving the overarching goal of avoiding conflict between the securities and antitrust regimes.

BACKGROUND

A. Short Selling

A short sale transaction proceeds in the following sequence. The short seller identifies securities she believes will drop in market price, borrows these securities from a broker (prime brokers have the greatest market share), sells the borrowed securities on the open market, purchases replacement securities on the open market, and returns them to the broker—thereby closing the short seller's position. The short seller's profit (if any) is the difference between the market price at which she sold the borrowed securities and the market price at which she purchased the replacement securities, less borrowing fees, brokerage fees, interest, and any other charges levied by the broker.

B. The Role of the Prime Brokers

In the context of short selling, a prime broker locates the short seller's requested securities, lends those securities to the short seller for a fee, and delivers those securities to the short seller's purchaser.

A short seller seeking to borrow securities contacts the broker's securities loan desk. Pursuant to SEC regulations, the securities loan desk must locate the requested securities before it can accept the short seller's order. See 17 C.F.R. § 242.203(b)(1)(i)-(iii). The securities loan desk may locate the securities in its own proprietary accounts, or in the hands of other brokers or institutional investors with significant long positions. Alternatively, the securities loan desk may locate the securities through a third party who assists the broker in exchange for a locate fee.

The broker charges the short seller a borrowing fee affected by supply and demand: the harder the security is to find and borrow, the higher the fee. The broker may develop an easy-to-borrow list of securities that are in abundant supply and a hard-to-borrow list of securities that are scarce. See Short Sales, Exchange Act Release No. 34-50103, 83 SEC Docket 1278 (July 28, 2004).

A short seller who has sold the borrowed securities on the open market must deliver those securities to the purchaser within three days of the transaction date. If the short seller's broker does not deliver in time, a failure-to-deliver ("FTD") occurs.

C. The Borrowing Fees Conspiracy

It is alleged that from April 12, 2000 to the present, the prime brokers charged "artificially inflated" borrowing fees by agreeing on which securities to designate arbitrarily as hard-to-borrow, and setting minimum borrowing fees for these securities. (There are other allegations, set out in the margin, which we do not reach.⁴)

D. Procedural History

On March 15, 2007, the prime brokers moved to dismiss the antitrust claim pursuant to Federal Rules of Civil Procedure 12(b)(6) and 9(b). On June 18, 2007, the United States Supreme Court decided Billing. On December 20, 2007, the district court applied Billing, granted the prime brokers' motion to dismiss the antitrust claim under Rule 12(b)(6), and declined to exercise supplemental jurisdiction over the state law claims.⁵ ETG timely appealed the district court's decision, arguing principally that the district court misapplied Billing.

DISCUSSION

"We review the district court's grant of a Rule 12(b)(6) motion de novo, drawing all reasonable inferences in plaintiff['s] favor, and accepting as true all the factual allegations in the complaint." In re Elevator Antitrust Litig., 502 F.3d 47, 50 (2d Cir. 2007) (per curiam) (internal quotation marks, citations, and brackets omitted).

Credit Suisse Securities (USA) LLC v. Billing, 551 U.S. 264, 127 S.Ct. 2383, 168 L.Ed.2d 145 (2007), was an antitrust action against underwriting firms that marketed and distributed shares in initial public offerings ("IPO"). The plaintiffs alleged "that the underwriters unlawfully agreed with one another that they would not sell shares of a popular new issue to a buyer unless that buyer committed (1) to buy additional shares of that security later at escalating prices (a practice called `laddering'), (2) to pay unusually high commissions on subsequent security purchases from the underwriters, or (3) to purchase from the underwriters other less desirable securities (a practice called `tying')." Id. at 267, 127 S.Ct. 2383.

The Supreme Court ruled that federal securities law implicitly precluded application of the antitrust law to the underwriters' alleged anticompetitive conduct. The Court articulated four considerations that bear upon whether "the securities laws are `clearly incompatible' with the application of the antitrust laws" in a particular context: (A) location within the heartland of securities regulations; (B) SEC authority to regulate; (C) ongoing SEC regulation; and (D) conflict between the two regimes. Id. at 285, 127 S.Ct. 2383. In selecting the level of particularity at which to address each consideration, we draw guidance from the specifics of the Supreme Court's...