Trump’s SEC may negate investors’ ability to fight securities fraud

Trump’s Securities and Exchange Commission (SEC) is threatening to fire the starting pistol in a new race to the bottom that could rob hard-working Americans of their retirement savings.

For decades, when a corporation misled or deceived its investors after selling securities through an initial public offering (IPO), those investors could band together in a class-action lawsuit to seek accountability for this kind of fraud.

{mosads}Over the years, these class actions have recovered many billions of dollars for cheated investors, ranging from large pension funds for police officers and firefighters to regular American citizens holding IRAs and 401(k)s. Equally important, this private enforcement has been central to holding the worst of the worst corporate actors accountable.

In 2012, one major corporation — the Carlyle Group — asked the SEC for permission to issue an IPO with a forced arbitration clause that would ban investors from bringing a class action.

These fine-print “ripoff clauses” already block individual investors from going to court when they are cheated, instead forcing them to make their case to a panel of private arbitrators selected by an industry self-regulatory body.

But Carlyle’s clause would go much further, barring investors from seeking accountability as a group for widespread violations of federal securities laws. The SEC expressed serious concerns that this move violated the securities laws, and Carlyle backed down.

Now, however, there are serious indications that the Trump administration’s new chair of the SEC, Jay Clayton, may be about to change everything. As Bloomberg has reported, the new SEC leadership might be seriously considering letting corporations use forced arbitration to ban securities class actions in their IPOs.

One of President Trump’s SEC picks, Michael Piwowar, publicly urged corporations to ban class actions in a recent speech. Then, in a Senate Banking hearing last week, Clayton refused to answer questions about this issue from Sen. Elizabeth Warren (D-Mass.) and seemed to suggest SEC staff may decide this without an actual vote by the full commission.

Sen. Warren pointed out that such an enormous change in SEC policy should require a full debate and vote by the SEC, and Clayton carefully responded that he didn’t “want to prejudge the issue.” Hmmm.

If the SEC does allow corporations to simply say that they can’t be sued for securities fraud by their investors in a class action, it will wipe away the most effective way of policing fraud in the securities markets. Such a move would sharply conflict with President Trump’s promises to strengthen U.S. business against our competitors.

One of the main reasons foreign investors hold more than $6.2 trillion in stocks in U.S. corporations is that American markets are particularly well policed compared to those in many other countries.

Make no mistake, private enforcement of the laws against securities fraud is absolutely crucial to the safety of investors in America’s markets. While the SEC does great work, it has a relatively modest staff, and repeatedly, it has been far less successful than private lawsuits in recovering monies for cheated investors.

In the mid-2000s, there were a series of extremely egregious and well-publicized securities frauds in the U.S. involving Enron, WorldCom, Tyco, Bank of America and Global Crossing. In those five cases, the SEC’s enforcement actions recovered penalties and fees of $1.8 billion.

By contrast, private litigation by investors themselves — the exact kind of case that the Trump administration is now considering eliminating — recovered $19.4 billion for investors.

In other words, in five of the largest and most famous securities fraud cases ever recorded, private securities fraud cases recovered 10 times as much money for investors as government enforcement actions.

A more recent case, with a settlement that is still being administered in a New York federal court, demonstrates exactly what is at stake were the SEC to reverse its stance. In In re Petrobras Securities Litigation, a Brazilian oil company made an IPO and sold other securities to investors.

There were serious problems with the IPO. When detailed and substantial allegations of misleading statements about Petrobras’s financial statements and business operations emerged, it turned out that there were two different sets of investors: those who purchased securities pursuant to U.S. transactions and those who purchased securities via the Brazilian stock exchange.

Thanks to the protections of U.S. securities law, the first group of investors was able to bring class actions despite a forced arbitration clause banning them in Petrobras’ bylaws. These investors are set to recover more than 90 percent of the $3 billion fraud settlement; meaning they will receive checks for over $2.7 billion.

The second group of investors, at the mercy of Brazilian law, were forced into arbitration on an individual basis and barred from joining a class action. Guess what they were able to recover? Not a dime.

In addition to protecting individual investors, securities class actions are often the only way bad actors are held accountable for fraud that weakens our entire financial system. These class actions are a necessary deterrent for the Enrons and Tycos of the world that might otherwise be able to run off with the profits from serious fraud.

Poll after poll shows Americans hate forced arbitration clauses that take away their rights to bring a class action. Even fewer Americans want corporations to be free to cheat them out of their retirement savings. This idea is only popular with one group — corporations that don’t want to be sued if they cheat people.

Why would Trump political appointees push to protect white-collar corporate executives who commit securities fraud? The only possible answer is that they must hope that Americans will never take notice. If the public is distracted, then corporate America can quietly get their buddies to gut our securities laws and start raiding the retirement accounts of everyday Americans.

Well, consider this a sound of the alarm. The SEC could try and take action at any moment. I believe that such an action would violate the federal securities laws and not be permissible under the Federal Arbitration Act. But suppose I am wrong.

In that case, the only thing that may stop the SEC from killing off securities class actions is if enough Americans express their outrage over the notion of placing their retirement savings at the mercy of big corporations. Perhaps then, Main Street may win against the real jackals of Wall Street, for once.

F. Paul Bland, Jr. is the executive director of Public Justice, a legal organization that advocates on behalf of consumers, employees, civil rights and the environment.