Last week, SDNY Judge Jesse Furman issued a 51 page decision in In Re: Barclays Liquidity Cross and High Frequency Trading Litigation dismissing all of the cases consolidated under the MDL. In these cases, investor plaintiffs asserted federal securities law claims under Section 10(b) and 6(b) of the Exchange Act against seven stock exchanges, Barclays PLC, and Barclays Capital Inc., as well as California state law claims against Barclays, based on their contention that defendants’ practices permitted high frequency traders (“HFTs”) to obtain unfair trading advantages over other investors. Judge Furman dismissed all the claims because the allegations were insufficient to state a claim as a matter of law.
The Claims Against the Exchanges
Plaintiffs’ claims against the exchanges were based on three features of the exchanges’ operations, which plaintiffs alleged provided HFT’s with an unfair ability to execute trades more quickly than other investors and obtain executions at more favorable prices than other, slower investors:
- Direct data feeds, by which the exchanges provided transaction data directly to HFTs and others willing to pay additional fees. In accordance with applicable rules, the exchanges made the direct data feeds available at the same time they provided transaction data to the processor that incorporated the data into the centralized feed made available to all market participants. However, as a result of the time it took for the centralized feed to process the data, HFTs and other subscribers to the direct feeds received transaction information more quickly than other investors.
- Co-location, by which HFTs and other customers were given the option of installing their servers extremely close to the exchanges’ servers, thereby shaving fractions of a second off the time needed to execute a trade.
- Complex order types, whereby the exchanges created custom order types such as “hide-and-light” orders, which remain hidden until the stock reaches a particular price. Plaintiffs claimed that the custom order types were created at the behest of HFTs, and provided them with the ability to receive executions before other order types received executions.
In dismissing the claims based on these practices, the Court first held that the exchanges were entitled to absolute immunity from claims relating to direct data feeds and complex order types, because both practices, which had been approved by the SEC, fell within “the scope of the quasi-governmental powers delegated to the Exchanges.” Claims concerning co-location were not subject to immunity because co-location was more akin to commercial product than a regulatory function.
Plaintiffs’ Section 10(b) claims with respect to all three practices were also subject to dismissal because plaintiffs failed to allege that the exchanges themselves engaged in manipulative trading activity. The Court found that, at most, the complaint alleged that the practices listed above purportedly aided and abetted alleged manipulative trading by HFTs. These claims were dismissed because Section 10(b) applies only to primary violations and not to claims of aiding and abetting. The Court, however, did not reach the question of whether the HFT trading at issue was manipulative. Finally, the Court found that Section 6(b) did not provide for a private cause of action, and dismissed plaintiffs’ claims under that section as well.
The Claims Against Barclays
Plaintiffs’ claims against Barclays were based on alleged misrepresentations concerning the extent to which participants in the Barclays’ Alternative Trading System (“ATS”) could be protected against trading with HFTs. In particular, plaintiffs claimed that Barclays’ marketing materials suggested that its dark pool was safe and that “they were not at risk of being exploited by HFT firms,” while simultaneously seeking to attract HFT order flow to its ATS.
Here again, the Court found that the allegations did not state a claim under the federal securities laws or the state laws invoked by one of the plaintiffs. As with the claims against the exchanges, the Court held that the federal claims against Barclays failed, because plaintiffs did not plead that Barclays had engaged in any manipulative acts or that it had committed any primary violations.
Plaintiffs’ claims against Barclays also failed because they did not allege facts sufficient to demonstrate reasonable reliance on Barclays’ alleged representations. With respect to the state law claims in particular, the Court found that the plaintiffs asserting those claims failed to allege that they ever received the supposedly misleading promotional materials that they complained of, and failed to demonstrate that they would have acted any differently if they had known about Barclays’ actual practices. Indeed, the Court found it telling that plaintiffs continued to trade in the Barclays ATS long after they discovered the conduct that their lawsuit criticized.
Judge Furman’s decision dismissed the cases included in the MDL, but granted the one plaintiff who alleged California state law claims leave to amend within four weeks.
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Judge Furman’s decision highlights that the court system may not be the most appropriate venue to resolve the ongoing debate regarding the propriety of high frequency trading. Judge Furman expressly stated that “[f]or the most part, however, those questions are not for the courts, but for commentators, private and semi-public entities (including the stock exchanges), and the political branches of government, which . . . have already taken up the issue.” As we have blogged about previously here, here, and here, government regulators have already expressed considerable interest in these issues.