For such a short and unanimous opinion, Jones v. Harris has proven to be remarkably resistant to categorization. Depending whom you ask, the Court’s ruling was either a victory for the industry because it endorsed the Gartenberg standard that no plaintiff has ever been able to satisfy, a victory for plaintiffs because it liberalized that Gartenberg standard with a new emphasis on disparate institutional and retail fees, or an abdication of the judicial role because it punted on the central issue of competition in the mutual fund industry.
Some representative headlines:
New York Times: Supreme Court Punts
Some representative law professor posts:
Black: “Don’t worry, Justice Thomas, we get it – plaintiffs can’t win 36(b) cases. Gartenberg deference prevails.”
Ribstein: “The Court applied an under-all-the-circumstances substance-plus-procedure test, the implications of which will be keeping mutual funds and their lawyers busy for some time.”
Cunningham: “In a gentle rebuke to two famous academic judges, Richard Posner and Frank Easterbrook, today the US Supreme Court told them a debate they were airing in a recent case was not for federal judges but for Congress.”
Perhaps the lone source of agreement is upon deciding who lost: Chief Judge Easterbrook and the Seventh Circuit’s imaginative economic reinterpretation of Section 36(b), 9-0.
But there are two ways of measuring success (in mutual fund litigation and in life): how far one has come and where one stands now.
On the first metric, the Court’s opinion appears indisputably to have improved the lot of investors and made life less comfortable for the industry. Forty-eight hours ago, the law throughout the United States was a Gartenberg standard under which no plaintiff had ever won a verdict -- except in the Seventh Circuit where the law was Easterbrook’s standard under which no plaintiff could ever win a verdict. Tuesday’s Supreme Court ruling eliminated the Seventh Circuit’s standard and applied everywhere a new ruling whose principal deviation from Gartenberg was its emphasis on a fact that favors plaintiffs, to the extent it favors anyone. Indeed, although once upon a time the industry may have cheered Easterbrook’s dramatically pro-defendant opinion, now it appears that his ruling served only to unsettle to the industry’s detriment what had been an unbroken 25 years of trial victories.
Which brings us to the second metric: where the parties stand today. And, on this point, the industry’s claims of victory appear more meaningful. Even if the Supreme Court has improved the lot of investors somewhat, these cases may still be very difficult to win. Courts will have one more factor to balance in an already-crowded juggling contest, and the industry will no doubt adduce plenty of data and experts to support their rates.
So how will things develop? The industry must decide whether to make no changes to its pricing structure and to litigate future challenges or, instead, to narrow the discrepancy between institutional and retail rates. Yesterday’s ruling is likely to increase advisors' litigation costs, either in terms of producing additional evidence or paying higher settlements. If, on the other hand, advisors attempt to close the gap in rates, they must choose whether to do so by raising institutional rates (highly unlikely) or by lowering retail rates (more likely). Thus, the industry will have to weigh the possibility of additional litigation costs against a diminution in profits. Perhaps, as Professor Ribstein suggested, advisors will wait to watch the progress of future litigation test cases before attempting to calculate an optimal balance.
But I think perhaps the most important sentence in the opinion is the penultimate one: “The debate between the Seventh Circuit panel [Easterbrook, C.J.] and the dissent from the denial of rehearing en banc [Posner, J.] regarding today’s mutual fund market is a matter for Congress, not the courts.” Inasmuch as financial reform has replaced health care reform in Capitol Hill’s in-tray, Congress may soon be ready to accept that invitation. Certainly, the legislature could provide a great deal more clarity this time by including a definition of “fiduciary duty.”
In the meantime, as Justice Scalia suggested at oral argument, the SEC might help to save millions in private litigation costs by bringing an action against the advisor with the most egregious fees.
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