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Dissenting From an SEC Windfall For Lawyers

Commissioners Daniel M. Gallagher and Michael S. Piwowar 

U.S. Securities and Exchange Commission[1]

Nov. 18, 2015

A $600 million ‘fair fund’ is likely to benefit only class-action attorneys and the fund’s administrators.

Earlier this month reports circulated that the Securities and Exchange Commission may set up a $600 million “fair fund” to distribute money collected from defendants to purportedly harmed investors in the insider-trading case SEC v. CR Intrinsic Investors.

In 2012 the SEC charged the Connecticut-based hedge-fund advisory firm CR Intrinsic Investors and former portfolio manager Matthew Martoma in connection with a $276 million insider-trading scheme involving the development of an Alzheimer’s drug by two pharmaceutical companies. The SEC’s complaint alleged that Martoma illegally obtained confidential details about negative results of a clinical trial and that, based on this information, several hedge funds sold more than $960 million in securities, avoiding hundreds of millions of dollars in losses.

In June the federal district court in the Southern District of New York approved a settlement between the SEC and CR Intrinsic. The court then ordered interested parties—including allegedly harmed investors—to make submissions to the SEC as to whether a fair fund should be established to distribute the money collected in the settlement. The court also directed the SEC to make a recommendation on setting up a fair fund.

We strongly object to the SEC’s reported recommendation to set up a fair fund, for a number of reasons. Fair funds can play an important role in returning money to defrauded investors, but in this case it will be incredibly difficult and expensive to identify and compensate the victims. In fact, it may not be possible to know who was harmed.

The only guaranteed winners will be administrators who distribute the fair fund and class-action lawyers who will take a significant cut of any funds paid to their clients. Indeed, plaintiffs lawyers mounted an unprecedented lobbying campaign after the court directed the SEC to make a recommendation about whether to establish a fair fund. Before the vote, our offices received dozens of letters from purported victims urging the commission to petition for a fair fund.

The strikingly similar tone and content of the letters that came cascading into our offices made it clear that they had been sent at the behest of class-action lawyers in a parallel civil action. It was all part of a coordinated campaign by the plaintiffs bar to gain access to the pot of gold at the end of the government investigations rainbow. These lawyers played no part in the commission’s successful enforcement action, yet they may now receive tens of millions of dollars as a result of the majority’s vote.

We refuse to be a part of any commission decision that will create a cottage industry for class-action lawyers, piggybacking on government investigations and targeting the disgorgement—and, even worse, government-ordered penalties—collected from defendants in SEC enforcement actions.

This decision sets a dangerous precedent. Class-action lawyers now have an incentive to round up potential victims in SEC insider trading cases and arrange a substantial contingency fee, then lead a fair-fund campaign under the guise of a grass-roots movement by harmed investors. Class-action lawyers could reap a third of the fair fund payouts thanks to the efforts of hard-working SEC staffers and the taxpayers who pay them.

The most galling aspect of the majority’s decision to seek a fair fund is that it will, in the long run, harm the investors the SEC is supposed to protect. Rather than receiving the maximum possible compensation for their losses under a fair fund, harmed investors are now at greater risk of suffering the additional loss of a significant amount of their potential recovery at the hands of opportunistic trial attorneys. The creation of a fair fund in this case is simply a misguided, massive wealth transfer to plaintiffs lawyers.

Beyond the corrupting influence this fair fund will have on internal SEC processes and the risk of further harm to victims, the majority’s action ignores questions of whether identifying harmed investors and calculating the amount of damages is practical, or even possible. The minuscule chance that some harmed investors might be identified cannot justify the resources that would be expended on a fruitless search.

The majority’s decision is all the more worrisome because it signals that the SEC may seek a fair fund in every insider trading case hereafter. Such a road would lead to pure folly—or in the case of class-action plaintiffs lawyers, to the bank.

Messrs. Gallagher and Piwowar are commissioners at the Securities and Exchange Commission.

[1] This opinion editorial originally appeared in The Wall Street Journal on Nov. 10, 2014, available at

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