In one of the first cases to apply the U.S. Supreme Court’s opinion in Credit Suisse Securities (USA) v. Billing, 127 S.Ct. 2383 (2007), a New York District Court found “clear incompatibility” between federal securities and antitrust laws and dismissed allegations that brokerage firms fixed prices charged to short sellers. In re Short Sale Antitrust Litig., 2007 U.S. Dist. LEXIS 94116 (S.D.N.Y. Dec. 20, 2007).
If plaintiff Electronic Trading Group LLC (“ETG”) were allowed to pursue its price-fixing claim against major brokerages, U.S. District Court Judge Victor Marrero wrote, a lay jury might mistake lawful conduct authorized by the securities laws for a conspiracy. “Such antitrust suits would likely chill a broad range of activities that the securities laws permit and encourage, and would likely inhibit the short selling activity that provides market liquidity and pricing efficiency.” Id. at *18.
ETG sought to represent a class of short sellers. In a typical short-sale transaction, a seller, anticipating that a security’s price will decline, borrows the security from a broker and sells it on the open market. Later, the seller buys the same security on the market and returns it to the broker, reaping any decline in price as profit. Id. at *2 to *3.
Brokers charge short-sellers a fee for locating securities available for borrowing. They also charge a fee for each day the short seller borrows the security. If a security is classified as “hard-to-borrow,” the borrowing fee may be higher. Id. at *3 to *4.
ETG alleged that defendants violated Sherman Act Section One by agreeing which securities to classify as hard-to-borrow, and fixing minimum daily borrowing rates. ETG also claimed that defendants charged improper fees for locating securities, when often the brokerages did not locate or transfer securities at all, but instead maintained running IOU tallies between themselves. ETG claimed the defendants communicated daily by email, telephone and fax to effectuate the conspiracy.
Defendants, relying on Credit Suisse, argued that securities laws implicitly preclude application of the antitrust laws to such alleged conduct. Under Credit Suisse, securities laws impliedly preclude antitrust claims when the two regimes are “clearly incompatible.” Credit Suisse, 127 S.Ct. at 2392. The High Court provided four factors to determine when securities and antitrust laws are incompatible: (1) the conduct alleged is squarely within the “heartland” of financial activity that securities laws seek to regulate; (2) the conduct is within SEC’s regulatory authority; (3) the existence of “active and ongoing agency regulation”; and (4) a likelihood of “a serious conflict between the antitrust and regulatory regimes.” Id. at 2397.
Short Sale court found the first three factors easily satisfied. Short sales are “essential to the proper functioning of well-regulated capital markets,” the court found. Short Sale at *12 to *13 (quoting Credit Suisse, 127 S.Ct. at 2392). The SEC has regulatory authority over such transactions and regularly exercises that authority. Id. at *13 to *14. In addition, the National Association of Securities Dealers and the New York Stock Exchange also actively enforce short-sale regulations, the court found. Id. at *15.
The court engaged in a more expansive analysis of the fourth factor: the existence of a “serious conflict” between the antitrust and regulatory regimes. Id. at *16. The “question now before this Court is, assuming that the SEC disapproves of (and will continue to disapprove of) the conduct at issue, whether ‘allow[ing] an antitrust lawsuit would threaten serious harm to the efficient functioning of the securities market.'” Id. at *16 (quoting Credit Suisse, 127 S.Ct. at 2396).
The Short Sale court found such a threat. A fine line separates conduct encouraged by the SEC from forbidden conduct, the court said. Brokers need to exchange information about availability and price of securities in order to execute short sales, the court said, and SEC regulations implicitly allow this exchange. Id. at *17. A nonexpert jury might mistake this lawful exchange of information for a conspiracy, the court said. Antitrust claims like those presented in the instant suit would deter brokerages from engaging in lawful conduct necessary for an efficient securities market. Id. at *18.
Similarly, the court found a conflict between securities laws and ETG’s claim that defendants conspired to tolerate the non-delivery of securities during short-sale transactions. In some cases, the court said, the SEC has elected not to require broker-dealers that fail to deliver securities to “buy-in” the other party to the transaction. Id. at *18.
“Allowing ETG to use the antitrust laws to attack Defendants’ alleged decisions not to force buy-ins would impose de facto delivery requirements in spite of the SEC’s reluctance to impose such blanket requirements,” the court said. Id. at *19.
The court, therefore, found that the securities and antitrust laws governing short sales were incompatible, and dismissed ETG’s antitrust claim. The court then dismissed state common-law claims (for breach of fiduciary duty, aiding and abetting such a breach, and unjust enrichment) on jurisdictional grounds. Id. at *22.