On July 28, 2014, in the latest securities suit to be filed in the wake of high-profile concerns about ‘high frequency trading,” a plaintiff shareholder filed a securities class action lawsuit in the Southern District of New York against Barclays and certain of its officers relating to the company’s operation of and alleged statements about its “dark pool” private securities trading venue.
The new securities suit follows in the wake of a lawsuit filed last month by the New York Attorney General alleging that Barclays had marketed its dark pool trading venue “through a series of misleading false statements to clients and the investing public about how, and for whose benefit, Barclays operates its dark pool.” The Barclays securities class action lawsuit also follows after an earlier securities lawsuit that was filed regarding high frequency trading more generally.
Background
A “dark pool” is a privately owned and operated securities trading venue. By contrast to public stock exchanges, where securities trading orders are generally visible to the marketplace participants and executions are posted immediately, when buy and sell orders are matched in a dark pool, the trading orders are not displayed publicly. This approach allow large blocks of shares to be traded anonymously without informing the market until the completion of the trade, in order to minimize the risk of price movement to the disadvantage of the trader. Although there is some disagreement about the magnitude, it is generally agreed that dark pool trading now accounts for a significant percentage of U.S. stock trading volume.
On June 25, 2014, New York Attorney General Eric T. Schneiderman announced (here) that his office had initiated a lawsuit in the New York (New York County) Supreme Court against Barclays and a related Barclays entity, in which the Attorney General alleged that Barclays had “dramatically increased the market share of its dark pool through a series of false statements to its clients and investors about how, and for whose benefit, Barclays operated the dark pool.” In his complaint, a copy of which can be found here, the Attorney General alleges that contrary to reassurances the bank provided its clients that it had created special safeguards to protect them from “predatory” high-frequency traders, the bank instead operated its dark pool “to favor high-frequency traders.” The complaint, which alleges violation of New York’s Martin Act, accuses Barclays of engaging in a pattern of “fraud and deceit.”
Among other things, the Attorney General’s complaint alleges that Barclays favored the high-frequency traders over others trading in the Barclays dark pool trading venue. The complaint also alleges that the bank falsified marketing materials by inaccurately portraying the concentration of high-frequency trading in the dark pool. The complaint alleges that internally the bank recognized a higher concentration of aggressive trading than it advertised. The complaint cites alleged internal Barclays communications in which Barclays employees allegedly acknowledge the “liberties” taken in marketing the dark pools.
According to a July 24, 2014 New York Times article (here), Barclays has moved to dismiss the Attorney General’s lawsuit, arguing, among other things, that the Attorney General had overstepped his authority in bringing the action against Barclays under the Martin Act. According to the article, Barclays apparently also argued that its customers “were sophisticated enough to understand that ‘glossy’ marketing brochures about the private market, known as a dark pool, did not reflect its actual composition.” Barclays asserted that its customers were “highly sophisticated traders and asset managers” who used “extensive data” and not just marketing materials to make decisions.
The Securities Class Action Complaint
According to their July 28, 2014 press release (here), plaintiff’s lawyers filed a securities class action lawsuit in the Southern District of New York against Barclays and three of its officers seeking damages under the federal securities laws based on Barclays alleged misrepresentations regarding its dark pool trading venue. The plaintiff’s complaint, a copy of which can be found here, alleges that Barclays engaged in a “scheme and wrongful course of business whereby Barclays provided sophisticated high-frequency trading (or ‘HFT’) firms with material, non-public information so that market participants could use the informational advantage obtained in a manner that was designed to and did manipulate trading” within the dark pool (which is known as Barclays LX), “to the detriment of Barclays’ own institutional clients.”
The complaint purports to be filed on behalf of a class of investors who purchase Barclays American Depositary Shares between August 2, 2011 and June 25, 2014. It alleges that during the class period the defendants misled these investors by making false or misleading statement or failing to disclose that
(i) Barclays engaged in a “systematic pattern of fraud and deceit” by using its dark pool to favor high-frequency traders over its other clients; (ii) the pools were promoted as offering investors protection from predatory traders, while Barclays instead courted HFT firms by charging them lower rates; (iii) Barclays falsely understated the percentage of aggressive HFT activity in its dark pool; (iv) Barclays failed to provide monitoring services it promised to investors which would protect the dark pool from aggressive, predatory HFTs; (v) Barclays routed a disproportionately high percentage of client orders to its own dark pool while falsely representing that it routed client orders in a manner that did not favor Barclays LX; (vi) Barclays secretly gave HFT firms informational and other advantages over other clients trading in the dark pool; (vii) Barclays’ practices subjected it to regulatory scrutiny and significant reputational harm; (viii) and as a result of the above, the Company’s financial statements were materially false and misleading at all relevant times.
The class action complaint relies heavily on the New York Attorney General’s complaint and the complaint also quotes the Attorney General’s press release almost in its entirety. The class action complaint alleges violations of Sections 10(b) and 20(a) of the ’34 Act and seeks to recover alleged damages on behalf of the investor class.
Discussion
This new securities class action complaint against Barclays follows after the massive, sprawling high frequency trading securities class action lawsuit filed against basically the entire global financial system in April of this year, following the publication of Michael Lewis’s book Flash Boys, as I discussed in a detailed blog post at the time (here). Barclays was in fact one of the many financial institutions named as a defendant in that earlier suit. However, the allegations in the earlier lawsuit did not specifically refer (at least not in detail) to the dark pool allegations raised in the Attorney General’s lawsuit and in the subsequent securities class action complaint.
Based on the latest news coverage, the New York Attorney General’s investigation of trading in dark pool trading venues has moved on to other banks. According to a July 29, 2014 New York Times article (here), the New York Attorney General’s office “appears to be stretching further into Europe.” The article reports that UBS disclosed that they are facing inquires about their own dark pool practices from the New York Attorney General, as well as from the SEC and “other regulators as part of an industry wide inquiry.” Deutsche Bank also reported that it has received inquiries but did not identify the regulators making the inquiries. Both UBS and Deutsche Bank were named as defendants in the earlier Flash Boys securities class action lawsuit.
Obviously, it is too early to predict whether these latest two banks to announce that they are facing investigative scrutiny will also face civil enforcement actions from the New York Attorney General (or other regulators). However, it does seem likely that if the New York Attorney General were to pursue an action against these or any other banks of the kind his office filed against Barclays that there would soon be follow-on securities litigation filed on behalf of U.S. investors in the target institutions.
It is interesting to me that at least so far (so far as I know) no litigation has been filed against Barclays or any of the other banks by clients of the banks that participated in the trading in a dark pool venue (although, to be sure, it might be argued that the earlier Flash Boys litigation was broad enough to encompass these dark pool clients within the putative class on whose behalf the gargantuan lawsuit was filed). On the one hand, I suppose the absence of this type of litigation on behalf of the dark pool traders who were supposedly misled or abused might suggest that the traders do not feel aggrieved or at least not aggrieved enough to file a lawsuit. On the other hand, it is possible that the harmed traders have many reasons for not stepping forward – the whole reason they were trading in the dark pool was to be able to trade anonymously and out of the glare of the public marketplace.
Barclays’ response to the New York Attorney General’s complaint certainly seems to suggest Barclays’ belief that the dark pool traders were sophisticated enough to fend for themselves (and by inference can have no gripes). Wayne State Law School Professor Peter Henning had a good column on this topic in a July 28, 2014 post on the New York Times Dealbook blog (here). In his column, which is entitled “Whether ‘Sophisticated’ Clients of Wall Street Can Also Get Duped,” he examines the argument, raised frequently by Wall Street, in effect that sophisticated investors know what is going on so can’t be misled because the investors don’t really believe what firms say.
Among other things, Henning quotes District of Connecticut Judge Janet Hall, who at the recent fraud conviction sentencing of Jeffries & Company managing director Jeffrey Litvak (who had also tried to raise the sophisticated client defense) told Litvak “You lied. Maybe that’s what people do every day on Wall Street. That doesn’t make it legal.”
Whether or not we will ever see any action taken directly by the dark pool traders themselves, I suspect we are going to see a lot more from regulators on this topic. At least in recent times, there is a history of the occupant of the New York Attorney General’s office sinking his teeth into a topic and then shaking it down for all it is worth, to significant political effect. To the extent the NYAG — or others—press ahead on these issues, we likely will see the securities class action bar following closely in their wake (at least to the extent that the target companies have securities trading on U.S. securities exchanges).
Barclays has of course had its share of scandal-driven securities litigation. Barclays was targeted by a securities class action lawsuit after it had reached a settlement with regulators regarding alleged manipulation of the Libor benchmark interest rate. Although that lawsuit was initially dismissed, in April 2014, the Second Circuit reversed the dismissal in part and the case was remanded to the district court for further proceedings, as discussed at length here.