904 F.2d 819 (2nd Cir. 1990), 398, Ross v. Bolton
|Docket Nº:||398, Docket 89-7662.|
|Citation:||904 F.2d 819|
|Party Name:||Blue Sky , Donald ROSS and Victoria J. Ross, Plaintiffs-Appellants, v. Richard E. BOLTON, R.E. Bolton & Co., Inc., Forbes, Walsh, Kelly & Co., Inc., and Bear, Stearns & Co., Inc., Defendants, Bear, Stearns & Co., Inc., Defendant-Appellee.|
|Case Date:||May 30, 1990|
|Court:||United States Courts of Appeals, Court of Appeals for the Second Circuit|
Argued Dec. 22, 1989.
Daniel J. Gallagher, Saddle River, N.J., for plaintiffs-appellants.
Henry F. Minnerop (I. Scott Bieler, Brown & Wood, New York City, of counsel), for defendant-appellee, Bear, Stearns & Co., Inc.
Before TIMBERS, CARDAMONE, and PRATT, Circuit Judges.
CARDAMONE, Circuit Judge:
The principal question on this securities litigation appeal is whether a clearing firm may use the in pari delicto defense to bar an investor's suit to recover losses in connection with stock he purchased from an introducing firm. Because in this case no blame may be laid at the clearing firm's doorstep for the wrongs committed by the introducing firm, we think the defense should be available.
R.E. Bolton & Company, Inc. (Bolton), a New York brokerage firm, was the principal market-maker in the securities of a company called Resort and Urban Timeshares, Inc. (RUTI securities), which were traded over-the-counter on the NASDAQ exchange. In 1981-82 the firm and its principal, Richard Bolton, initiated an illegal and complex stock parking scheme that created an appearance that these securities were being actively traded, and caused their price to rise despite the fact that the corporation's earnings had not increased. In December 1982 plaintiff Donald Ross, an employee of St. Lawrence Securities, Ltd. (St. Lawrence), a Canadian brokerage firm, received a telephone call from Richard Bolton. Bolton offered to sell Ross 26,900 units of RUTI securities at $17.50 a share, with the understanding that the units could be quickly resold at a higher price to another purchaser, Forbes, Walsh, Kelly & Co. (Forbes). Plaintiff purchased the RUTI shares in the account of his daughter Victoria, and the trade was cleared by defendant Bear, Stearns & Co., Inc. (Bear Stearns) clearing agent for Bolton. Ross thereby jumped imprudently onto Bolton's stock parking gravy train but, unfortunately for him, it was already too late.
When he attempted to sell the 26,900 shares he had purchased, Forbes declined to buy them. Bolton had in the meanwhile become insolvent and could no longer keep its illegal parking scheme afloat. With its principal market-maker unable to maintain a market the bottom dropped out of RUTI securities, resulting in a large financial loss for the Rosses, and precipitating the instant litigation. Plaintiffs sued Richard Bolton and his company, and Forbes, and Bear Stearns under Sec. 10(b) of the Securities Exchange Act of 1934 (1934 Act), 15 U.S.C. Sec. 78j(b) (1988), SEC Rule 10b-5, 17 C.F.R. Sec. 240.10b-5 (1989), under the Racketeer Influenced and Corrupt Organizations Act, 18 U.S.C. Sec. 1961 (1988), and under state common law fraud and Sec. 352-c of the New York General Business Law.
The present appeal is taken by Donald and Victoria Ross from a judgment of the United States District Court for the Southern District of New York (Knapp, J.), which dismissed the appellants' amended complaint against Bear Stearns in two memorandum opinions and orders entered on April 6 and 11, 1989. Judge Knapp certified that, under Fed.R.Civ.P. 54(b), its orders should not be delayed from entry as final judgments. We affirm the district court's dismissal of appellants' complaints, but write in this case to discuss the in pari delicto defense raised by Bear Stearns, but not reached or decided by the district court.
It is helpful to an understanding of this appeal to trace the chronology of events from the initiation of the stock parking scheme onward. Bolton initiated its stock parking scheme through a series of purchases and sales in which it was positioned as both seller and buyer of the RUTI securities--i.e., Bolton sold the securities to
various investors and within a few days bought the stock back at a higher price than that at which it had been sold. The stock sometimes went through the hands of one or two intervening parties, who purchased the stock at progressively higher prices, notwithstanding that RUTI had no increase in earnings. In order to deceive Bear Stearns and the National Association of Securities Dealers (N.A.S.D.) into believing its net capital position was strong, Bolton also had been parking units of RUTI securities in customer accounts at above market prices. At the month-end clearance, when customers refused to acknowledge these spurious trades, Bolton cancelled them, thereby reversing the parked transactions, and causing it to return to its actual undercapitalized position.
As the clearing agent for these transactions, Bear Stearns over time had loaned money to Bolton on margin collateralized by securities owned by Bolton--principally RUTI securities. During the period between August 1981 and December 1982 the value of these securities was substantially less than the amount of collateral required to secure the loans. Bolton's account with Bear Stearns therefore was often under margin. In June 1982 the N.A.S.D. began scrutinizing Bolton's net capital position. Bear Stearns also had concerns about Bolton's solvency, and insisted that Bolton reduce its inventory of RUTI securities, imposed trading restrictions, and limited its margin loans to Bolton.
On November 12, 1982 Bear Stearns gave Bolton the 30-day notice required to terminate its clearing agreement. As a follow-up to the termination notice, Bear Stearns further tightened its restrictions on Bolton's trading, permitting only those trades that reduced Bolton's "long" inventory positions or were simultaneously matched to clear. As a result of discussions with Bolton about the firm's trading activities and its plans to reduce its inventory of RUTI securities, Bear Stearns reduced the margin credit it had previously extended.
On or about December 8 Bear Stearns began to wind up Bolton's account. It refused to release Bolton's assets to Securities Settlement Corporation, another clearing agency that had agreed to handle Bolton's trades after its relationship with Bear Stearns came to an end. On December 10 Bear Stearns "wrote off" $454,995 against Bolton's trading account, putting Bolton in a near insolvent position. Bear Stearns continued nonetheless to act as Bolton's clearing agent after December 12, 1982--the date the clearing agreement was to have been terminated.
It was at this point that Ross entered the picture. On December 14, 1982 St. Lawrence received a comparison--an invoice reflecting the sale of securities from one brokerage firm to another--dated December 8 from Bear Stearns indicating that St. Lawrence had purchased 26,900 units of RUTI from Bolton at $17.50 a share. The supposed purchase was a fictitious trade instigated as a part of Bolton's plan. St. Lawrence refused to acknowledge it. Thereafter, Ross received the telephone call from Richard Bolton explaining his need to sell 26,900 units of RUTI securities immediately, and that Forbes wanted them, but could not then complete the transaction.
On December 15 Ross spoke with John Walsh of Forbes who told Ross that he would purchase the 26,900 RUTI units for $18 a unit, $.50 more per unit than Bolton was offering to sell the securities to Ross. Ross also called Alan Greenberg, a Bear Stearns managing partner, to "confirm Ross' understanding concerning Bolton's clearing problems with Bear about which Ross had become aware on or about December 14, 1982 and to discuss with Greenberg a satisfactory way to respond" to the December 8 comparison. Greenberg "demanded" that St. Lawrence honor the trade, not knowing that the comparison reflected a fictitious transaction.
After these telephone conversations, Ross as earlier noted purchased the 26,900 RUTI units from Bolton for the account of his daughter Victoria and Bear Stearns cleared the transaction. Forbes subsequently refused to purchase the RUTI units from Ross. Forbes had offered to
purchase the RUTI securities based on an underlying agreement with Bolton that Bolton would purchase the securities for $18 1/8. Thus, when Bolton was unable to honor its agreement, Forbes reneged. Only later did Ross learn of this underlying agreement between Forbes and Bolton. There is no allegation that Bear Stearns knew of this or of any other of Bolton's machinations.
At a December 21, 1982 meeting Bear Stearns threatened to redeposit RUTI securities remaining from unclaimed transactions into Bolton's account, which would, in effect, put Bolton out of business. Bolton therefore sent a wire to the Securities Exchange Commission advising that body of its net capital deficiency and withdrawing from NASDAQ as a RUTI market-maker. The market for RUTI securities collapsed, the price falling from 17 7/8 bid-18 1/4 ask, on December 20, 1982 to 5 1/4 bid-5 3/4 ask on December 23, 1982.
Two prior complaints by Ross were dismissed. The original complaint, filed in 1983, was dismissed in an opinion dated April 20, 1984. The first amended complaint, filed in November 1985, was dismissed under Fed.R.Civ.P. 9(b) in an opinion dated June 10, 1986 and reported at 639 F.Supp. 323. With the above recited background in mind, we turn attention to the two separate frauds claimed in the Rosses' second amended complaint which was also dismissed under Rule 9(b).
The first fraud alleged that defendant Bolton, the dominant market-maker for RUTI securities, manipulated and artificially inflated their price during 1981 and 1982. Bear Stearns'...
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