(Article from Securities Law Alert, June 2020)
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On April 2, 2020, the New York Supreme Court granted summary judgment to defendants in a state law-based fraud action arising out of a collateralized debt obligation involving subprime residential mortgages based on the plaintiff’s failure to prove loss causation. Loreley Financing (Jersey) No 3 v. Lynch, 2020 WL 2302989 (N.Y. Sup. Ct. 2020) (Masley, J.). The court found the plaintiff “fail[ed] to proffer at least some evidence of how much, if any, of its losses were caused by defendants as opposed to the 2008-2009 financial crisis, or that the alleged fraud increased the chance of [the plaintiff’s] losses in the face of such a significant market-wide crisis.” The court observed that the plaintiff did not “even proffer a theory about how much of their losses were caused independently of that market crisis.”
The court stated that in securities fraud actions, a “plaintiff must establish both that defendant’s misrepresentation induced plaintiff to enter into the transaction (transaction causation) and that the misrepresentations directly caused the loss about which the plaintiff complains (loss causation).” The court explained that “when the plaintiff’s loss coincides with a marketwide phenomenon causing comparable losses to other investors [i.e., the 2008 financial crisis], the prospect that the plaintiff’s loss was caused by the fraud decreases.” In such cases, “the plaintiff must parse out the cause of its losses from macroeconomic events.” The court observed that “when an investor suffers an investment loss due to a market crash . . . of such dramatic proportions that the losses would have occurred at the same time and to the same extent, regardless of the alleged fraud, loss causation is lacking.”
In the case before it, defendants “present[ed] prima facie proof that [the plaintiff’s] loss was proximately caused by the intervening events of the 2007-2009 financial crisis.” The court explained that “[t]he burden thus shifts to [the plaintiff] to raise a triable issue of fact about whether its loss can indeed be traced to defendants’ fraudulent actions independent of the adverse market conditions.”
The plaintiff contended that it should be able to recover damages based solely on “the difference between the purchase price of the asset and its true value.” But the court explained that “[i]n securities fraud cases, overpayment is not sufficient to prove loss causation.” Although the plaintiff “submitted evidence of transaction causation,” the court held that the plaintiff’s “fraud claim still fails for lack of proof that the alleged misrepresentations and omissions were the cause of its loss.”