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Annual Filings Are at the Highest Level in Six Years, Driven by the Credit Crisis, While Median Settlement Values Stay Steady
Introduction
As the securities markets continued to exhibit extraordinary volatility and the economy suffered through a recession in 2008, securities class action litigation intensified. For the year 2008 (through December 14, 2008), 255 securities class actions were filed, up from a 12-year low of only 131 filings in 2006 and 195 in 2007.
The credit crisis drove the surge in filings: 110 cases filed in 2008 had some tie to the credit crisis, up from 40 in 2007. Of the 110 cases related to the credit crisis, 20 were cases related to failures in the auction-rate securities market, and most of these cases were filed in the first half of the year. In addition, almost 50% of the 2008 cases were filed against defendants in the financial sector, up from about 16% of cases in the 2005-2006 period.
While filings have steadily increased from 2006 through 2008, a similar pattern has not been observed in median settlement values. Median settlements have remained relatively stable, staying below $10 million. In 2008, the median settlement resolved for $7.5 million, slightly below the 2007 median of $9.4 million, and above the 2006 median settlement of $7.0 million. As always, a small number of large settlements causes average settlements to exceed median settlements; the 2008 average settlement of $38 million is substantially higher than the median.
Given the surge in credit crisis-related filings, are average and median settlement sizes also likely to grow in the future as these cases begin to resolve? Two opposing factors may come into play with regard to these credit crisis case resolutions. On one hand, the investor losses associated with credit crisis cases filed in 2008 are very large—the median investor loss for such a case is almost $3.5 billion, compared to a median loss of only $387 million for a non-credit crisis case filed this year. Historically, investor losses have been positively correlated with settlement size, so big losses may be an indicator of big settlements to come. On the other hand, defendants with "deep pockets" are the ones who can afford big settlements, and the credit crisis has dramatically shrunk the size of many defendants' pockets.
Securities Class Action Filings
Through December 14, 255 federal securities class actions had been filed in 2008, continuing last year's substantial rebound from the recent low of 131 cases in 2006.1 In fact, if we exclude the unusual cases—those that are related to the IPO securities litigation, analyst cases, and mutual fund market timing cases (i.e., the "Other Cases" in Figure 1)—filings in 2008 are at a 10-year high. If filings continue to come in over the last two weeks of 2008 at the same pace, the total number of cases would reach 267.
Credit crisis-related cases made up approximately one-fifth of all filings in 2007, but make up almost half of the 2008 filings. Options backdating cases peaked in 2006, but still continue to appear, with five brought in 2008.
The first cases related to the subprime meltdown were filed in February 2007. By the second half of 2007, subprime cases were being filed at an increasing pace, and, as the economy moved into a full-blown credit crisis in 2008, other credit-related cases were filed as well. For example, within the broader category of cases related to the crisis, auction-rate securities-related cases peaked in the first half of 2008, with seven filed in the first quarter and nine in the second quarter of the year following the massive failure of auctions in late February.2 Although the pace of auction-rate securities-related filings has slowed since then, these cases have not disappeared, with four filed in the second half of 2008. While the first surge of these cases was filed against the banks and broker-dealers involved in the creation of markets for auction-rate securities, at least one "indirect" case has subsequently been filed against a non-bank company, NextWave Wireless Inc., which held these securities in its portfolio. This indirect channel may be a source of additional filings in the weeks to come.
Filings by Circuit
Filings by Circuit In this year, as in prior years, cases have been concentrated in the Second and the Ninth Circuits.
The particular spike in the Second Circuit cases in 2008 stems directly from the credit crisis: both auction-rate securities cases and other credit crisis-related cases have been clustered in this Circuit, which includes New York, Connecticut, and Vermont.
While in 2007 only eight Circuits had been affected by subprime meltdown, in 1008 all Circuits have had at least one credit crisis-related case.
Filings by Sector
In 2005 and 2006, securities class action filings were spread widely across a number of industrial sectors. As the subprime lending markets experienced a meltdown and a full-blown credit crisis began to emerge in 2007, an increasing fraction of all filings were made against firms in the financial sector.
This year, a huge spike in filings occurred against companies in the finance sector, as the credit crisis continued and a number of firms in the finance industry collapsed. Over 120 filings in 2008—almost 50% of all filings—named a company in the finance sector as the primary defendant.
Although the most dramatic trend in filings has been in the finance sector, other sectors also saw continued filing activity. For example, even though the health technology sector has lost ground to the finance sector as a percentage of all filings, the level of filings in this sector has slightly increased over the past few years: there were only 19 filings against health technology firms in 2006 and 29 filings in 2008.
For the electronic technology and technology services sectors combined, on the other hand, both the number of filings and the percentage of all filings in that sector are lower in 2008 than in the prior three years.
For some cases, the primary defendant may not be in the financial sector, but a co-defendant in that sector may also be named. Thus, the financial services sector is likely to be even more embroiled in securities class action litigation in 2008 than indicated by the pattern in Figure 5.
Specifically, 65 cases filed in 2008 so far have had some financial institution co-defendant named in the complaint. This is a substantial increase from the number of cases with a financial sector co-defendant from the prior year: 9% in 2007 had a financial institution co-defendant, while 25% of cases filed in 2008
* This edition of NERA's research on recent trends in shareholder class action litigation expands on previous work by our colleagues Lucy Allen, Elaine Buckberg, Frederick C. Dunbar, Todd Foster, Vinita M. Juneja, Denise Neumann Martin, Ronald I. Miller, and David I. Tabak. We gratefully acknowledge their contribution to previous editions as well as this current version. The authors also thank Jake George, John Montgomery, and David I. Tabak for helpful comments on earlier drafts of the paper. In addition, we thank Nicole Roman, Carlos Soto, Nii Nookwei Tackie, Maria Tarasyuk, Steven D. Towler, and many other NERA researchers for further assistance. These individuals receive credit only for improving this paper; all errors and omissions are ours.
1 Data on filings come from multiple sources, including RiskMetrics Group/Securities Class Action Services (SCAS), Factiva, Bloomberg, FactSet, SEC filings, and the public press. In compiling our data, we seek information on all unique class actions alleging damages with regard to the purchase, ownership, or sale of securities. Most of our summary statistics below are based on data for cases filed in US Federal Courts. Until cases are consolidated, we report multiple filings that potentially are related to the same alleged fraud if complaints are filed in different Circuits. Similarly, until cases are consolidated, we report multiple filings if different cases are filed on behalf of investors in common stock and other securities. If cases are ultimately consolidated, the data are adjusted.
2 Data on filings come from multiple sources, including RiskMetrics Group/Securities Class Action Services (SCAS), Factiva, Bloomberg, FactSet, SEC filings, and the public press. In compiling our data, we seek information on all unique class actions alleging damages with regard to the purchase, ownership, or sale of securities. Most of our summary statistics below are based on data for cases filed in US Federal Courts. Until cases are consolidated, we report multiple filings that potentially are related to the same alleged fraud if complaints are filed in different Circuits. Similarly, until cases are consolidated, we report multiple filings if different cases are filed on behalf of investors in common stock and other securities. If cases are ultimately consolidated, the data are adjusted.
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