Basic v. Levinson Questions 1. What test does the Court say applies to determine whether the misstatements made by Basic were material? Why does the Court go with this test instead of the TSC Industries test? 2. In light of this case, what would you advise a client who is involved in preliminary merger discussions to do in response to a media inquiry regarding whether the client is involved in merger discussions? 3. What is the fraud-on-the-market theory? What does it have to do with whether a plaintiff relied on a misstatement or omission? 4. What does a plaintiff need to show to meet the reliance element under the theory? 5. How can a defendant rebut the presumption of reliance? Case:

978 that has applied the businessmotive test so as to require a taxpayer to report a gain from the sale of stock as an ordinary gain. If the same stock is sold at a loss, however, the taxpayer may be able to garner ordi- nary-loss treatment by emphasizing the business purpose behind the stock's acqui- sition. The potential for such abuse was evidenced in this case by the fact that as late as 1974, when Arkansas Best still hoped to sell the Bank stock at a profit, Arkansas Best apparently expected to re- port the gain as a capital gain. See 83 T.C., at 647648. 111 We conclude that a taxpayer's motivation in purchasing an asset is irrelevant to the question whether the asset is \"property held by a taxpayer (whether or not connect- ed with his business)\" and is thus within 1221's general definition of \"capital as- set." Because the capital stock held by petitioner falls within the broad definition of the term \"capital asset" in 1221 and is outside the classes of property excluded from capital-asset status, the loss arising from the sale of the stock is a capital loss. Corn Products Rening Co. v. Commis- sioner, supra, which we interpret as in- volving a broad reading of the inventory exclusion of 1221, has no application in the present context. Accordingly, the judgment of the Court of Appeals is af- firmed. It is so ordered. Justice KENNEDY took no part in the consideration or decision of this case. W O EH" NUMBER SVSIEM T 108 SUPREME COURT REPORTER 485 US. 223 485 US 224. 99 L.Ed.2d 194 JamBASIC INCORPORATED, et al., Petitioners, v. Max L. LEVINSON, et a]. No. 86-279. Argued Nov. 2, 1987. Decided March 7, 1988. Sellers of stock during period prior to formal announcement of merger brought Rule 10b5 action in which it was alleged that material misrepresentations had been made due to denial of merger negotiations prior to official announcement. The United States District Court for the Northern Dis- trict of Ohio, William K. Thomas, J., certi fied class action, but determined that mis- statements were not material and therefore not false and misleading. On appeal, the Court of Appeals for the Sixth Circuit, Boyce F. Martin, Jr., Circuit Judge, 786 F.2d 741, affirmed in part, reversed in part and remanded. 0n grant of certiorari, the Supreme Court, Justice Blackmun, held that: (1) standard of materiality set forth in T80 Industries is appropriate in 10(b) and Rule 10b5 context; (2) materiality in merger context depends on probability that transaction will be consummated, and its significance to issuer of securities; and (3) presumption of reliance, supported in part by fraudon-rnarket theory may be applied, but presumption is rebuttable. Vacated and remanded. Justice White filed opinion concurring in part and dissenting in part in which Justice O'Connor joined. Opinion on remand, 871 F.2d 562. 1. Securities Regulation @602801} Standard set forth in TSC Industries, whereby omitted fact is material if there is substantial likelihood that its disclosure would have been considered significant by reasonable investor, is applicable for 485 US. 224 BASIC INC. v. LEVINSON 979 Client 108 S.Cl. 978 (1985) 10(b) and Rule lob-5 actions. Securities Exchange Act of 1934, 1 et seq., 10(b), as amended, 15 U.S.C.A. 78a et seq., 78j(b). 2. Securities Regulation $602805), 60.- 46 Information concerning merger discus- sions, which Would otherwise be considered significant to trading decision of reason- able investor is not artificially excluded from definition of materiality, for purposes of Rule 10b5, merely because agreement- in-principle as to price and structure has not yet been reached by parties or their representatives. Securities Exchange Act of 1934, 1 et seq., 10(b), as amended, 15 U.S.C.A. 78a et seq., 78j(b). 3. Securities Regulation '$60.46 In order to prevail on Rule 10b5 claim, plaintiff must show that statements made by corporation were misleading as to material facts; it is not enough that state ment is false or incomplete, if misrepresen- ted fact is otherwise insignificant. Securi- ties Exchange Act of 1934, 1 et seq., 10(b), as amended, 15 U.S.C.A. 789. et seq., 78j(b). 4. Securities Regulation =60.28(2) Silence, absent duty to disclose, is not misleading under Rule 10b5. Securities Exchange Act of 1934, 1 et seq., 10(b), as amended, 15 U.S.C.A. 78a et seq., 78j(b). 5. Securities Regulation =60.48(3), 60.62 Presumption of reliance upon misstate- ments made by corporation, supported by fraudommarket theory may be applied in Rule 10b5 cases, instead of requiring each individual in class action to show direct reliance on misstatements; however, pre- sumption of reliance may be rebutted through attempt to demonstrate that price was not affected by misrepresentation or that purchasers or sellers did not trade in reliance on integrity of market price. Se- * The syllabus constitutes no part of the opinion of the Court but has been prepared by the Re- porter of Decisions for the convenience of the curities Exchange Act of 1934, 1 et seq., 10(b), as amended, 15 U.S.C.A. 78a et seq., 78j(b). Syllabus " The Securities and Exchange Commis sion's Rule 10b-5, promulgated under 10(b) of the Securities Exchange Act of 1934 (Act), prohibits, in connection with the purchase or sale of any security, the mak- ing of any untrue Statement of a material fact or the omission of a material fact that would render statements made not misleadw ing. In December 1978, Combustion Engi- neering, Inc., and Basic Incorporated agreed to merge. During the preceding two years, representatives of the two com- panies had various meetings and conversa- tions regarding the possibility of a merger; during that time Basic made three public statements denying that any merger nego- tiations were taking place or that it knew of any corporate developments that would account for heavy trading activity in its stock. Respondents, former Basic share- holders who sold their stock between Ba~ sic's first public denial of merger activity and the suspension of trading in Basic stock just prior to the merger announce ment, filed a class action against Basic and some of its directors, alleging that Basic's statements had been false or misleading, in violation of 10(b) and Rule 10b5, and that respondents were injured by selling their shares at prices artificially depressed by those statements. The District Court certified respondents' class, but granted summary judgment for petitioners on the merits. The Court of Appeals affirmed the class certification, agreeing that under a \"fraud-on-the-market" theory, respondents' reliance on petitioners' misrepresentations could be presumed, and thus that common issues predominated over questions per taining to individual plaintiffs. The Court of Appeais reversed the grant of summary judgment and remanded, rejecting the Dis- reader. See United States v. Detroit Lumber Co., 200 U5. 321. 337. 26 S.Ct. 282. 237, 50 L.Ed. 499. 980 trict Court's view that preliminary merger discussions are immaterial as a matter of law, and holding that even discussions that might not otherwise have been material, become so by virtue of a statement denying their existence. Held: 1. The standard set forth in T80 In- dustries, Inc. v. Northwcy, Inc, 426 U.S. 438, 96 S.Ct. 2126, 48 L.Ed.2d 757 (1976), whereby an omitted fact is material if there is a substantial likelihood that its disclosure would have been considered significant by a reasonable investor, is expressly adopted for the 10(b) and Rule lob5 context. Pp. 982983. 42252. The "agreementin-principle" test, under which preliminary merger dis cussions do not become material until the would-be merger partners have reached agreement as to the price and structure of the transaction, is rejected as a bright-line materiality test. Its policybased rationales do not justify the exclusion of otherwise significant information from the definition of materiality. Pp. 984986. 3. The Court of Appeals' view that information concerning otherwise insignifi- cant developments becomes material solely because of an affirmative denial of their existence is also rejected: Rule lob5 re- quires that the statements be misleading as to a material fact. Pp. 986987. 4. Materiality in the merger context depends on the probability that the transac- tion will be consummated, and its signifi cance to the issuer of the securities. Thus, materiality depends on the facts and is to be determined on a case-by-case basis. Pp. 987988. 5. The courts below properly applied a presumption of reliance, supported in part by the fraud-on-themarket theory, in- stead of requiring each plaintiff to show direct reliance on Basic's statements. Such a presumption relieves the Rule 10b5 plaintiff of an unrealistic evidentiary bur- den, and is consistent with, and supportive of, the Act's policy of requiring full disclo- sure and fostering reliance on market in- 108 SUPREME COURT REPORTER 485 U.S. 224 tegrity. The presumption is also supported by common sense and probability: an in- vestor who trades stock at the price set by an impersonal market does so in reliance on the integrity of that price. Because most publicly available information is reected in market price, an investor's reliance on any public material misrepresentations may be presumed for purposes of a Rule 10b5 action. Pp. 988992. 6. The presumption of reliance may be rebutted: Rule 10b5 defendants may attempt to show that the price was not affected by their misrepresentation, or that the plaintiff did not trade in reliance on the integrity of the market price. Pp. 992-993. 786 F.2d 741 (CA6 1986), vacated and remanded. BLACKMUN, J., delivered the opinion of the Court, in which BRENNAN, MARSHALL, and STEVENS, JJ., joined, and in Parts I, II, and III of which WHITE and O'CONNOR, JJ., joined. WHITE, J., filed an opinion concurring in part and dissenting in part, in which O'CONNOR, J., joined, post, p. 993. REHNQUIST, C.J., and SCALIA and KENNEDY, JJ., took no part in the consideration or decision of the case. Joel W. Sternman, New York City, for petitioners. gWayne A. Cross, New York City, for respondents. Justice BLACKMUN delivered the opinion of the Court. This case requires us to apply the materi ality requirement of 10(b) of the Securi- ties Exchange Act of 1934, (1934 Act), 48 T'tat. 881, as amended, 15 U.S.C. 78a et seq. and the Securities and Exchange Com- mission's Rule 10b5, 17 CFR 240.10b~5 (1987), promulgated thereunder, in the con text of preliminary corporate merger dis- cussions. We must also determine whether a person who traded a corporation's shares 485 U.S. 228 BASIC INC. v. LEVINSON 981 Cite as 108 S.Ct. 978 (1988) on a securities exchange after the issuance Beginning in September 1976, Combus- of a materially misleading statement by the tion representatives had meetings and tele- corporation may invoke a rebuttable pre- phone conversations with Basic officers sumption that, in trading, he relied on the and directors, including petitioners here, integrity of the price set by the market. concerning the possibility of a merger.3 During 1977 and 1978, Basic made three public statements denying that it was en- gaged in merger negotiations.* On Decem- Prior to December 20, 1978, Basic Incor- ber 18, 1978, Basic asked | 22:the New York porated was a publicly traded company pri- Stock Exchange to suspend trading in its marily engaged in the business of manufac shares and issued a release stating that it turing chemical refractories for the steel had been "approached" by another compa- industry. As early as 1965 or 1966, Com- ny concerning a merger. Id., at 413. On bustion Engineering, Inc., a company pro- December 19, Basic's board endorsed Com- ducing mostly alumina-based refractories, bustion's offer of $46 per share for its expressed some interest in acquiring Basic, common stock, id., at 335, 414-416, and on but was deterred from pursuing this incli- the following day publicly announced its nation seriously because of antitrust con- approval of Combustion's tender offer for cerns it then entertained. See App. 81-83. all outstanding shares. In 1976, however, regulatory action opened Respondents are former Basic sharehold- the way to a renewal of 227Combustion's ers who sold their stock after Basic's first interest.' The "Strategic Plan," dated Oc- public statement of October 21, 1977, and tober 25, 1976, for Combustion's Industrial before the suspension of trading in Decem Products Group included the objective: ber 1978. Respondents brought a class "Acquire Basic Inc. $30 million." App. action against Basic and its directors, as- 337. serting that the defendants issued three 1. In what are known as the Kaiser-Lavino pro- 4. On October 21, 1977, after heavy trading and a ceedings, the Federal Trade Commission took new high in Basic stock, the following news the position in 1976 that basic or chemical ref- item appeared in the Cleveland Plain Dealer: ractories were in a market separate from nonba- sic or acidic or alumina refractories; this would "[Basic] President Max Muller said the com remove the antitrust barrier to a merger be pany knew no reason for the stock's activity and tween Basic and Combustion's refractories sub- that no negotiations were under way with any sidiary. On October 12, 1978, the Initial Deci- company for a merger. He said Flintkote re sion of the Administrative Law Judge confirmed cently denied Wall Street rumors that it would make a tender offer of $25 a share for contro that position. See In re Kaiser Aluminum & Chemical Corp., 93 F.T.C. 764, 771, 809-810 of the Cleveland-based maker of refractories for (1979). See also the opinion of the Court of the steel industry." App. 363. On September 25, 1978, in reply to an inquiry Appeals in this case, 786 F.2d 741, 745 (CA6 from the New York Stock Exchange, Basic is- 1986). sued a release concerning increased activity in its stock and stated that 2. In addition to Basic itself, petitioners are indi- "management is unaware of any present or viduals who had been members of its board of pending company development that would re- directors prior to 1979: Anthony M. Caito, Sam- sult in the abnormally heavy trading activity uel Eels, Jr., John A. Gelbach, Harley C. Lee, and price fluctuation in company shares that Max Muller, H. Chapman Rose, Edmund G. have been experienced in the past few days.' Sylvester, and John C. Wilson, Jr. Another for- Id., at 401. mer director, Mathew J. Ludwig, was a party to On November 6, 1978, Basic issued to its share- the proceedings below but died on July 17, 1986 holders a "Nine Months Report 1978." This and is not a petitioner here. See Brief for Report stated: Petitioners ii. "With regard to the stock market activity in the Company's shares we remain unaware of any 3. In light of our disposition of this case, any present or pending developments which would further characterization of these discussions account for the high volume of trading and must await application, on remand, of the mate- price fluctuations in recent months." Id., at riality standard adopted today. 403.982 false or misleading public statements and thereby were in violation of 10(b) of the 1934 Act and of Rule lob5. Respondents alleged that they were injured by selling Basic shares at artificially depressed prices in a market affected by petitioners' mis- leading statements and in reliance thereon. The District Court adopted a presump- tion of reliance by members of the plaintiff class upon petitioners' public statements that enabled the court to conclude that common questions of fact or law predomi- nated over particular questions pertaining to individual plaintiffs. See Fed.Rule Civ. Proc. 23(b)(3). The District Court therefore certified respondents' class.5 0n the mer- its, however, the District Court granted Jiggsurnmary judgment for the defendants. It held that, as a matter of law, any mis- statements were immaterial: there were no negotiations ongoing at the time of the first statement, and although negotiations were taking place when the second and third statements were issued, those negoti- ations were not \"destined, with reasonable certainty, to become a merger agreement in principle.\" App. to Pet. for Cert. 103a. The United States Court of Appeals for the Sixth Circuit affirmed the class certifi- cation, hut reversed the District Court's summary judgment, and remanded the case. 786 F.2d 741 (1986). The court rea- soned that while petitioners were under no general duty to disclose their discussions with Combustion, any statement the com- pany voluntarily released could not be " 'so incomplete as to mislead.' \" 111., at 746, quoting SEC v. Texas Gulf Sulphur Co., 401 F.2d 833, 862 (CA2 1968) (en banc), cert. denied, sub nom. Cantos 17. SEC, 394 U.S. 976, 89 S.Ct. 1454, 22 L.Ed.2d 756 (1969). In the Court of Appeals' view, Ba- 5. Respondents initially sought to represent all those who sold Basic shares between October 1, 1976, and December 20. 1978. See Amended Complaint in No. C791220 (ND Ohio), 1i 5. The District Court, however, recognized a class peri- od extending only from October 21, 1977. the date of the first public statement, rather than from the date negotiations allegedly corn- menced. In its certification decision, as subsc- 108 SUPREME COURT REPORTER 485 U.S. 228 sic's statements that no negotiations where taking place, and that it knew of no corpo rate developments to account for the heavy trading activity, were misleading. With re- spect to materiality, the court rejected the argument that preliminary merger discus sions are immaterial as a matter of law, and held that "once a statement is made denying the existence of any discussions, even discussions that might not have been material in absence of the denial are mate- rial because they make the statement made untrue." 786 F.2d, at 749. The Court of Appeals joined a number of other Circuits in accepting the \"fraud-on- themarket theory\" to create a rebuttable presumption that respondents relied on pc- titioners' mLerialgao misrepresentations, noting that without the presumption it would be impractical to certify a class un- der Federal Rule of Civil Procedure 23(b)(3). See 786 F.2d, at 750751. We granted certiorari, 479 U.S. 1083, 107 S.Ct. 1284, 94 L.Ed.2d 142 (1987), to resolve the split, see Part III, infra, among the Courts of Appeals as to the standard of materiality applicable to preliminary merg- er discussions, and to determine whether the courts below properly applied a pre- sumption of reliance in certifying the class, rather than requiring each class member to show direct reliance on Basic's statements. 11 [l] The 1934 Act was designed to pro- tect investors against manipulation of stock prices. See S.Rep. No. 792, 73d Cong, 2d Sees, 15 (1934). Underlying the adoption of extensive disclosure requirements was a legislative philosophy: \"There cannot be honest markets without honest publicity. Manipulation and dishonest practices of the quently amended, the District Court also exclud- ed from the class those who had purchased Basic shares after the October 1977 statement but sold them before the September 1978 state- ment, App. to Pet. for Cert. 1238124a, and those who sold their shares after the close of the market on Friday, December 15, 1978. kl, at 1373. 485 U.S. 232 BASIC INC. v. LEVINSON 983 Cite as 108 S.Ct. 978 (1988) market place thrive upon mystery and se- ed States, 445 U.S. 222, 100 S.Ct. 1108, 63 crecy." H.R.Rep. No. 1383, 73d Cong., 2d L.Ed.2d 348 (1980) (same); Ernst & Ernst Sess., 11 (1934). This Court "repeatedly v. Hochfelder, supra (scienter). See also has described the 'fundamental purpose' of Carpenter v. United States, 484 U.S. 19, the Act as implementing a 'philosophy of 108 S.Ct. 316, 98 L.Ed.2d 275 (1987) (confi- full disclosure.'" Santa Fe Industries, dentiality). The Court also explicitly has Inc. v. Green, 430 U.S. 462, 477-478, 97 defined a standard of materiality under the S.Ct. 1292, 1303, 51 L.Ed.2d 480 (1977), securities laws, see TSC Industries, Inc. v. quoting SEC v. Capital Gains Research Northway, Inc., 426 U.S. 438, 96 S.Ct. Bureau, Inc., 375 U.S. 180, 186, 84 S.Ct. 2126, 48 L.Ed.2d 757 (1976), concluding in 275, 280, 11 L.Ed.2d 237 (1963). the proxy-solicitation context that "[ajn Pursuant to its authority under $ 10(b) omitted fact is material if there is a sub- of the 1934 Act, 15 U.S.C. $ 78j, the Securi- stantial likelihood that a reasonable share- ties and Exchange Commission promul- holder would consider it important in decid- gated Rule 10b-5. Judicial interpretation ing how to vote." Id., at 449, 96 S.Ct., at and application,231 legislative acquiescence, 2132.7 Acknowledging that certain infor- and the passage of time have removed any mation concerning corporate developments doubt that a private cause of action exists could well be of "dubious significance," id., for a violation of $ 10(b) and Rule 10b-5, at 448, 96 S.Ct., at 2132, the Court was and constitutes an essential tool for en- careful not to set too low a standard of forcement of the 1934 Act's requirements. materiality; it was concerned that a mini- See, e.g., Ernst & Ernst v. Hochfelder, 425 mal standard might bring an overabun- U.S. 185, 196, 96 S.Ct. 1375, 1382, 47 dance of information within its reach, and L.Ed.2d 668 (1976); Blue Chip Stamps v. lead management "simply to bury the Manor Drug Stores, 421 U.S. 723, 730, 95 shareholders in an avalanche of trivial in- S.Ct. 1917, 1923, 44 L.Ed.2d 539 (1975). formation-a result that is hardly condu- cive to informed decisionmaking." Id., at The Court previously has addressed vari- 448-449, 96 S.Ct., at 2132. It further ex- ous positive and common-law requirements plained that to fulfill the materiality re- for a violation of $ 10(b) or of Rule 10b-5. quirement "there must be a substantial See, e.g., Santa Fe Industries, Inc. v. likelihood that the disclosure of the omitted Green, supra ("manipulative or deceptive" fact would have been viewed by the requirement of the statute); Blue Chip 1232reasonable investor as having signifi- Stamps v. Manor Drug Stores, supra ("in cantly altered the 'total mix' of information connection with the purchase or sale" re- made available." Id., at 449, 96 S.Ct., at quirement of the Rule); Dirks v. SEC, 463 2132. We now expressly adopt the TSC U.S. 646, 103 S.Ct. 3255, 77 L.Ed.2d 911 Industries standard of materiality for the (1983) (duty to disclose); Chiarella v. Unit- $ 10(b) and Rule 10b-5 context.8 6. In relevant part, Rule 10b-5 provides: 7. TSC Industries arose under $ 14(a), as amend- "It shall be unlawful for any person, directly ed, of the 1934 Act, 15 U.S.C. $ 78n(a), and Rule or indirectly, by the use of any means or instru- 14a-9, 17 CFR $ 240.14a-9 (1975). mentality of interstate commerce, or of the mails or of any facility of any national securi- 8. This application of the $ 14(a) definition of ties exchange, materiality to $ 10(b) and Rule 10b-5 is not disputed. See Brief for Petitioners 17, n. 12; Brief for Respondents 30, n. 10; Brief for SEC "(b) To make any untrue statement of a mate- as Amicus Curiae 8, n. 4. See also McGrath v. rial fact or to omit to state a material fact Zenith Radio Corp., 651 F.2d 458, 466, n. 4 necessary in order to make the statements (CA7), cert. denied, 454 U.S. 835, 102 S.Ct. 136, made, in the light of the circumstances under 70 L.Ed.2d 114 (1981), and Goldberg v. Meridor, which they were made, not misleading. . .., 567 F.2d 209, 218-219 (CA2 1977), cert. denied, "in connection with the purchase or sale of any 434 U.S. 1069, 98 S.Ct. 1249, 55 L.Ed.2d 771 security." (1978).984 108 SUPREME COURT REPORTER 485 U.S. 232 III Three rationales have been offered in The application of this materiality stan- support of the "agreement-in-principle" dard to preliminary merger discussions is test. The first derives from the concern not self-evident. Where the impact of the expressed in TSC Industries that an inves- corporate development on the target's for- tor not be overwhelmed by excessively de- tune is certain and clear, the TSC Indus- tailed and trivial information, and focuses tries materiality definition admits straight- on the substantial risk that preliminary forward application. Where, on the other merger discussions may collapse: because hand, the event is contingent or speculative such discussions are inherently tentative, in nature, it is difficult to ascertain whethisclosure of their existence itself could er the "reasonable investor" would have mislead investors and foster false opti- considered the omitted information signifi- mism. See Greenfield v. Heublein, Inc., cant at the time. Merger negotiations, be- 742 F.2d, at 756; Reiss v. Pan American cause of the ever-present possibility that t World Airways, Inc., 711 F.2d 11, 14 (CA2 the contemplated transaction will not be 1983). The other two justifications for the effectuated, fall into the latter category." agreement-in-principle standard are based on management concerns: because the re- quirement of "agreement-in-principle" lim- its the scope of disclosure obligations, it Petitioners urge upon us a Third Circuit helps preserve the confidentiality of merg- test for resolving this difficulty.10 See er discussions where earlier disclosure Brief for Petitioners 20-22. Under this might prejudice the negotiations; and the 1233approach, preliminary merger discus- test also provides a usable, bright-line rule sions do not become material until "agree- for determining when disclosure must be ment-in-principle" as to the price and struc made. See Greenfield v. Heublein, Inc., ture of the transaction has been reached 742 F.2d, at 757; Flamm |234V. Eberstadt, between the would-be merger partners. 814 F.2d 1169, 1176-1178 (CA7), cert. de- See Greenfield v. Heublein, Inc., 742 F.2d nied, 484 U.S. 853, 108 S.Ct. 157, 98 751, 757 (CA3 1984), cert. denied, 469 U.S. L.Ed.2d 112 (1987). 1215, 105 S.Ct. 1189, 84 L.Ed.2d 336 (1985). None of these policy-based rationales, By definition, then, information concerning however, purports to explain why drawing any negotiations not yet at the agreement- the line at agreement-in-principle reflects in-principle stage could be withheld or even the significance of the information upon misrepresented without a violation of Rule the investor's decision. The first rationale, 10b-5. and the only one connected to the concerns 9. We do not address here any other kinds of defendant was under an obligation to disclose contingent or speculative information, such as various events related to merger negotiations. earnings forecasts or projections. See generally Reiss v. Pan American World Airways, Inc., 711 Hiler, The SEC and the Courts' Approach to F.2d 11, 13-14 (1983). The Seventh Circuit re- Disclosure of Earnings Projections, Asset Ap- cently endorsed the agreement-in-principle test praisals, and Other Soft Information: Old Prob- lems, Changing Views, 46 Md.L.Rev. 1114 of materiality. See Flamm v. Eberstadt, 814 (1987). F.2d 1169, 1174-1179 (describing agreement-in- principle as an agreement on price and struc 10. See Staffin v. Greenberg, 672 F.2d 1196, 1207 ture), cert. denied, 484 U.S. 853, 108 S.Ct. 157, (CA3 1982) (defining duty to disclose existence 98 L.Ed.2d 112 (1987). In some of these cases it of ongoing merger negotiations as triggered is unclear whether the court based its decision when agreement-in-principle is reached); on a finding that no duty arose to reveal the Greenfield v. Heublein, Inc., 742 F.2d 751 (CA3 existence of negotiations, or whether it conclud- 1984) (applying agreement-in-principle test to ed that the negotiations were immaterial under materiality inquiry), cert. denied, 469 U.S. 1215, an interpretation of the opinion in TSC Indus- 105 S.Ct. 1189, 84 L.Ed.2d 336 (1985). Citing tries, Inc. v. Northway, Inc., 426 U.S. 438, 96 Staffin, the United States Court of Appeals for S.Ct. 2126, 48 L.Ed.2d 757 (1976). the Second Circuit has rejected a claim that485 U.S. 235 BASIC INC. v. LEVINSON 985 Chem 108 S.Ct. 975 (1988) expressed in TSC Industries, stands sound- ly rejected, even by a Court of Appeals that otherwise has accepted the wisdom of the agreement-in-principle test. \"It assumes that investors are nitwits, unable to appre- ciateeven when toldthat mergers are risky propositions up until the closing.\" Flamm 2:. Eberstadt, 814 F.2d, at 1175. Disclosure, and not paternalistic withhold- ing of accurate information, is the policy chosen and expressed by Congress. We have recognized time and again, a "funda mental purpose\" of the various Securities Acts, \"was to substitute a philosophy of full disclosure for the philosophy of caveat emptor and thus to achieve a high stan dard of business ethics in the securities industry.\" SEC 1;. Capital Gains Re- search Bureau, Inc, 375 U.S., at 186, 84 S.Ct., at 280. Accord, Ailiated Ute Citi- zens 7). United States, 406 U.S. 128, 151, 92 S.Ct. 1456, 1471, 31 L.Ed.2d 741 (1972); Santa Fe Industries, Inc. v. Green, 430 U.S., at 477, 97 S.Ct., at 1303. The role of the materiality requirement is not to \"at- tribute to investors a child-like simplicity, an inability to grasp the probabilistic signif- icance of negotiations,\" Flamm 1). Eber- stadt, 814 F.2d, at 1175, but to filter out essentially useless information that a rea- sonable investor would not consider signifi- cant, even as part of a larger \"mix" of factors to consider in making his invest- ment decision. TSC Industries, Inc. v. Northway, Inc, 426 U.S., at 448449, 96 S.Ct., at 2132. ll. Reasoning backwards from a goal of eco nomic efficiency, that Court of Appeals stated: "Rule lob5 is about fraud, after all, and it is not fraudulent to conduct business in a way that makes investors better off...." 814 F.2d. at 1177. [2. See, e.g., Brown, Corporate Secrecy. the Fed- eral Securities Laws. and the Disclosure of On- going Negotiations, 36 Cath.U.L.Rev. 93, 145 155 (1986); Bebchuk. The Case for Facilitating Competing Tender Offers. 95 Harv.L.Rev. 1028 (1982); Hamm v. Eberstadt, 814 F.2d. at 1177, n. 2 (citing scholarly debate). See also In re Carnation Co., Exchange Act Release No. 22214. 33 S.E.C. Docket 1025, 1030 (1985) ("The impor- tance of accurate and complete issuer disclosure The second rationale, the importance of secrecy during the early stages of merger discussions, also seems irrelevant to an as- sessment whether their existence is signifi- cant to the trading decision of a reasonable investor. To avoid a \"bidding war\" over its target, an acquiring firm often will insist that negotiations remain confidential, see, e.g., In re Camationm 00., Exchange Act Release No. 22214, 33 SEC. Docket 1025 (1985), and at least one Court of Appeals has stated that \"silence pending settlement of the price and structure of a deal is beneficial to most investors, most of the time.\" Flamm v. Eberstadt, 814 F.2d, at 1177.\" We need not ascertain, however, whether secrecy necessarily maximizes shareholder wealthalthough we note that the pr0posi- tion is at least disputed as a matter of theory and empirical research 12for this case does not concern the timing of a disclosure; it concerns only its accuracy and completeness.13 We face here the nar- row question whether information concern- ing the existence and status of preliminary merger discussions is significant to the rea- sonable investor's trading decision. Argu- ments based on the premise that some dis closure would be \"premature\" in a sense are more properly considered under the rubric of an issuer's duty to disclose. The "secrecy" rationale is simply inapposite to the definition of materiality. to the integrity of the securities markets cannot be overemphasized. To the extent that investors cannot rely upOn the accuracy and complete- ness of issuer statements, they will be less likely to invest, thereby reducing the liquidity of the securities markets to the detriment of investors and issuers alike"). [3. See SEC v. Texas Gulf Sulphur Co., 401 F.2d 833, 862 (CA2 1968) (en banc) (\"Rule 10b5 is violated whenever assertions are made. as here, in a manner reasonably calculated to inuence the investing public if such assertions are false or misleading or are so incomplete as to mislead..."), cert. denied sub nom. Comes v. SEC, 394 U.S. 976, 89 S.Ct. 1454, 22 L.Ed.2d 756 (1969). 986 gagThe final justification offered in sup- port of the agreement-in-principle test seems to be directed solely at the comfort of corporate managers. A brightline rule indeed is easier to follow than a standard that requires the exercise of judgment in the light of all the circumstances. But ease of application alone is not an excuse for ignoring the purposes of the Securities Acts and Congress' policy decisions. Any approach that designates a single fact or occurrence as always determinative of an inherently fact-specific finding such as ma- teriality, must necessarily be overinclusive or underinclusive. In TSC Industries this Court explained: \"The determination [of materiality] requires delicate assessments of the inferences a 'reasonable shareholder' would draw from a given set of facts and the significance of those inferences to him. . . .\" 426 U.S., at 450, 96 S.Ct., at 2133. After much study, the Advisory Committee on Corporate Disclosure cautioned the SEC against administratively confining material- ity to a rigid formula.\" Courts also would do well to heed this advice. [2] We therefore find no valid justifica- tion for artificially excluding from the defi- nition of materiality information concern- ing merger discussions, which would other- wise he considered significant to the trad- ing decision of a reasonable investor, mere- ly because agreement-in-principle as to price and structure has not yet been reached by the parties or their representa- tives. 14. "Although the Committee believes that ideal- ly it would be desirable to have absolute certain- ty in the application of the materiality concept, it is its view that such a goal is illusory and unrealistic. The materiality concept is judg- mental in nature and it is not possible to trans- late this into a numerical formula. The Com- mittee's advice to the [SEC] is to avoid this quest for certainty and to continue consideration of materiality on a case-by-case basis as disclosure problems are identified." House Committee on Interstate and Foreign Commerce, Report of the Advisory Committee on Corporate Disclosure to the Securities and Exchange Commission. 95th Cong, lst Sess., 327 (Comm.Print 1977). 108 SUPREME COURT REPORTER 435 U.S. 236 42373 [3] The Sixth Circuit explicitly rejected the agreement-inprinciple test, as we do today, but in its place adopted a rule that, if taken literally, would be equally insensi- tive, in our view, to the distinction between materiality and the other elements of an action under Rule 10b5: \"When a company whose stock is public- ly traded makes a statement, as Basic did, that \"no negotiations' are underway, and that the corporation knows of 'no reason for the stock's activity,' and that 'management is unaware of any present or pending corporate development that would result in the abnormally heavy trading activity,' information concerning ongoing acquisition discussions becomes material by virtue of the statement de- nying their existence. . . . . . In analyzing whether information regarding merger discussions is material such that it must be affirmatively dis closed to avoid a violation of Rule lob5, the discussions and their progress are the primary considerations. However, once a statement is made denying the existence of any discussions, even discus sions that might not have been material in absence of the denial are material be- cause they make the statement made un- true.\" 786 F.2d, at 748-749 (emphasis in Original).'5 JgggThlS approach, however, fails to recog nize that, in order to prevail on a Rule 10b5 claim, a plaintiff must show that the 15. Subsequently. the Sixth Circuit denied a peti- tion for rehearing en banc in this case. App. to Pet. for Cert. 144a. Concurring separately, Judge Wellford, one of the original panel memv hers, then explained that he did not read the panel's opinion to create a "conclusive presump- tion of materiality for any undisclosed informa- tion claimed to render inaccurate statements denying the existence of alleged preliminary merger discussions." Id, at 1453. In his View, the decision merely reversed the District Court's judgment, which had been based on the agree- ment-in-principle standard. lbid. 485 U.S. 239 BASIC INC. v. LEVINSON 987 Clleac 108 5.0!. 978 (1988) statements were misleading as to a mate- rial fact. It is not enough that a state- ment is false or incomplete, if the misrepre sented fact is otherwise insignificant. C Even before this Court's decision in TSC Industries, the Second Circuit had ex- plained the role of the materiality require- ment of Rule 10b5, with respect to contin- gent or speculative information or events, in a manner that gave that term meaning that is independent of the other provisions of the Rule. Under such circumstances, materiality "will depend at any given time upon a balancing of both the indicated probability that the event will occur and the anticipated magnitude of the event in light of the totality of the company activi- ty.\" SEC 1). Texas Gulf Sulphur Co., 401 F.2d, at 849. Interestingly, neither the Third Circuit decision adopting the agree- ment-in-principle test nor petitioners here take issue with this general standard. Rather, they suggest that with respect to preliminary merger discussions, there are good reasons to draw a line at agreement on price and structure. In a subsequent decision, the late Judge Friendly, writing for a Second Circuit pan- el, applied the Texas Gulf Sulphur proba- bility/ magnitude approach in the specific context of preliminary merger negotiations. After acknowledging that materiality is something to be determined on the basis of the particular facts of each case, he stated: 16. The SEC in the present case endorses the highly fact-dependent probability/magnitude balancing approach of Texas Gulf Sulphur. It explains: \"The possibility of a merger may have an immediate importance to investors in the company's securities even if no merger ultimate- ly takes place." Brief for SEC as Ami'cus Curiae 10. The SEC's insights are helpful, and we accord them due deference. See TSC Industries, Inc. v. Norrhway, Inc, 426 U.S., at 449. n. 10, 96 S.Ct., at 2132, n. 10. 17. To be actionable, of course, a statement must also be misleading. Silence, absent a duty to disclose, is not misleading under Rule IOb-S. "No comment" statements are generally the functional equivalent of silence. See In re Car- nation 09.. Exchange ACI Release No. 22214, 33 \"Since a merger in which it is bought out is the most important event that can occur in a small corporation's life, to wit, its death, we think that inside informa- tion, as regards a merger of this sort, can become material at an earlier stage than would be the case as regards lesser transactionsand this even though the mortality rate of mergers in such forma- tive stages is doubtless hig ." SEC 1). Gear: Industries, Inc, 531 F.2d 39, 4748 (1976). 39We agree with that analysis.\" [4] Whether merger discussions in any particular case are material therefore de pends on the facts. Generally, in order to assess the probability that the event will occur, a factfinder will need to look to indicia of interest in the transaction at the highest corporate levels. Without attempt- ing to catalog all such possible factors, we note by way of example that board resolu tions, instructions to investment bankers, and actual negotiations between principals or their intermediaries may serve as indicia of interest. To assess the magnitude of the transaction to the issuer of the securi- ties allegedly manipulated, a factfinder will need to consider such facts as the size of the two corporate entities and of the poten- tial premiums over market value. No par- ticular event or factor short of closing the transaction need be either necessary or suf' ficient by itself to render merger discus- sions material." S.E.C. Docket 1025 (1985). See also New York Stock Exchange Listed Company Manual 6; 202.01, reprinted in 3 CCH Fed.Sec.L.Rep. \"23,515 (1987) (premature public announce- ment may properly be delayed for valid busi ness purpose and where adequate security can be maintained); American Stock Exchange Company Guide 401405, reprinted in 3 CCH Fed.Sec.L.Rep. 111i 23,124A23,124E (1985) (sim- ilar provisions). It has been suggested that given current mar- ket practices, a "no comment" statement is tan- tamount to an admission that merger discus sions are underway. See Flamm v. Ebersma't, 814 F.2d, at 1178. That may well hold true to the extent that issuers adopt a policy of truthful- ly denying merger rumors when no discussions 988 108 SUPREME COURT REPORTER 485 U.S. 240 1240As we clarify today, materiality de- we remand the case for reconsideration of pends on the significance the reasonable the question whether a grant of summary investor would place on the withheld or judgment is appropriate on this record.20 misrepresented information.18 The fact- specific inquiry we endorse here is consist- IV ent with the approach a number of courts have taken in assessing the materiality of merger negotiations. Because the stan- We turn to the question of reliance and dard of materiality we have | 241adopted dif- the fraud-on-the-market theory. Succinctly fers from that used by both courts below, put: are underway, and of issuing "no comment" effectively collapse the materiality requirement statements when they are in the midst of negotia into the analysis of defendant's disclosure ations. There are, of course, other statement duties. policies firms could adopt; we need not now advise issuers as to what kind of practice to 19. See, e.g., SEC v. Shapiro, 494 F.2d 1301, follow, within the range permitted by law. Per- 1306-1307 (CA2 1974) (in light of projected very haps more importantly, we think that creating substantial increase in earnings per share, nego an exception to a regulatory scheme founded on tiations material, although merger still less than a prodisclosure legislative philosophy, because probable); Holmes v. Bateson, 583 F.2d 542, 558 complying with the regulation might be "bad for (CA1 1978) (merger negotiations material al- business," is a role for Congress, not this Court. though they had not yet reached point of dis- See also id., at 1182 (opinion concurring in cussing terms); SEC v. Gaspar, [1984-1985] judgment and concurring in part). CCH Fed.Sec.L.Rep. 1 92,004, pp. 90,977-90,978 18. We find no authority in the statute, the legis- (SDNY 1985) [Available on WESTLAW, 1985 lative history, or our previous decisions for WL 521] (merger negotiations material although varying the standard of materiality depending they did not proceed to actual tender offer); on who brings the action or whether insiders Dungan v. Colt Industries, Inc., 532 F.Supp. 832, are alleged to have profited. See, e.g., Pavlidis 837 (ND Ill.1982) (fact that defendants were v. New England Patriots Football Club, Inc., 737 seriously exploring the sale of their company F.2d 1227, 1231 (CA1 1984) ("A fact does not was material); American General Ins. Co. v. become more material to the shareholder's deci Equitable General Corp., 493 F.Supp. 721, 744- sion because it is withheld by an insider, or 745 (ED Va.1980) (merger negotiations material because the insider might profit by withholding four months before agreement-in-principle it"); cf. Aaron v. SEC, 446 U.S. 680, 691, 100 reached). Cf. Susquehanna Corp. v. Pan Ameri- S.Ct. 1945, 1953, 64 L.Ed.2d 611 (1980) can Sulphur Co., 423 F.2d 1075, 1084-1085 (CA5 ("[S]cienter is an element of a violation of 1970) (holding immaterial "unilateral offer to $ 10(b) and Rule 10b-5, regardless of the identi- negotiate" never acknowledged by target and ty of the plaintiff or the nature of the relief repudiated two days later); Berman v. Gerber sought") Products Co., 454 F.Supp. 1310, 1316, 1318 (WD We recognize that trading (and profit making) Mich.1978) (mere "overtures" immaterial). by insiders can serve as an indication of materi- ality, see SEC v. Texas Gulf Sulphur Co., 401 20. The Sixth Circuit rejected the District Court's F.2d, at 851; General Portland, Inc. v. LaFarge narrow reading of Basic's "no developments" Coppee S.A., [1982-1983] CCH Fed.Sec.L.Rep. statement, see n. 4, supra, which focused on 1 99,148, p. 95,544 (ND Tex.1981) [Available on whether petitioners knew of any reason for the WESTLAW, 1981 WL 1408]. We are not pre- activity in Basic stock, that is, whether petition pared to agree, however, that "[ijn cases of the ers were aware of leaks concerning ongoing disclosure of inside information to a favored discussions. 786 F.2d, at 747. See also Com- few, determination of materiality has a different ment, Disclosure of Preliminary Merger Negotia aspect than when the issue is, for example, an ations Under Rule 10b-5, 62 Wash.L.Rev. 81, inaccuracy in a publicly disseminated press re 82-84 (1987) (noting prevalence of leaks and lease." SEC v. Geon Industries, Inc., 531 F.2d studies demonstrating that substantial trading 39, 48 (CA2 1976). Devising two different stan activity immediately preceding merger an dards of materiality, one for situations where nouncements is the "rule, not the exception"). insiders have traded in abrogation of their duty We accept the Court of Appeals' reading of the to disclose or abstain (or for that matter when statement as the more natural one, emphasizing any disclosure duty has been breached), and management's knowledge of developments (as another covering affirmative misrepresentations opposed to leaks) that would explain unusual by those under no duty to disclose (but under trading activity. See id., at 92-93; see also SEC the ever-present duty not to mislead), would v. Texas Gulf Sulphur Co., 401 F.2d, at 862-863.485 U.S. 243 BASIC INC. v. LEVINSON 989 Cite as 108 S.Ct. 978 (1988) "The fraud on the market theory is The District Court thus concluded that with based on the hypothesis that, in an open reference to each public statement and its and developed securities market, the impact upon the open market for Basic price of a company's stock is determined shares, common questions predominated by the available material information re- over individual questions, as required by garding the company and its busi- Federal Rules of Civil Procedure 23(a)(2) ness. ... Misleading statements will and (b)(3). therefore242 defraud purchasers of stock J243 Petitioners and their amici complain even if the purchasers do not directly that the fraud-on-the-market theory effect rely on the misstatements.... The caus- tively eliminates the requirement that a al connection between the defendants' plaintiff asserting a claim under Rule fraud and the plaintiffs' purchase of 10b-5 prove reliance. They note that re- stock in such a case is no less significant liance is and long has been an element of than in a case of direct reliance on mis- common-law fraud, see, e.g., Restatement representations." Peil v. Speiser, 806 (Second) of Torts $ 525 (1977); W. Keeton, F.2d 1154, 1160-1161 (CA3 1986). D. Dobbs, R. Keeton, & D. Owen, Prosser Our task, of course, is not to assess the and Keeton on Law of Torts $ 108 (5th ed. general validity of the theory, but to con- 1984), and argue that because the analo- sider whether it was proper for the courts gous express right of action includes a below to apply a rebuttable presumption of reliance requirement, see, e.g., $ 18(a) of reliance, supported in part by the fraud-on- the 1934 Act, as amended, 15 U.S.C. the-market theory. Cf. the comments of $ 78r(a), so too must an action implied un- the dissent, post, at 994-995. der $ 10(b). This case required resolution of several We agree that reliance is an element of a common questions of law and fact concern- Rule 10b-5 cause of action. See Ernst & ing the falsity or misleading nature of the Ernst v. Hochfelder, 425 U.S., at 206, 96 three public statements made by Basic, the S.Ct., at 1387 (quoting Senate Report). Re- presence or absence of scienter, and the liance provides the requisite causal connec- materiality of the misrepresentations, if tion between a defendant's misrepresenta- any. In their amended complaint, the tion and a plaintiff's injury. See, e.g., Wil- named plaintiffs alleged that in reliance on son v. Comtech Telecommunications Basic's statements they sold their shares of Corp., 648 F.2d 88, 92 (CA2 1981); List v. Basic stock in the depressed market cre- Fashion Park, Inc., 340 F.2d 457, 462 ated by petitioners. See Amended Com- (CA2), cert. denied sub nom. List v. Ler- plaint in No. C79-1220 (ND Ohio), 1 27, 29, ner, 382 U.S. 811, 86 S.Ct. 23, 15 L.Ed.2d 35, 40; see also id., 1 33 (alleging effect on 60 (1965). There is, however, more than market price of Basic's statements). Re- one way to demonstrate the causal connec- quiring proof of individualized reliance tion. Indeed, we previously have dispensed from each member of the proposed plaintiff with a requirement of positive proof of class effectively would have prevented re- reliance, where a duty to disclose material spondents from proceeding with a class information had been breached, concluding action, since individual issues then would that the necessary nexus between the have overwhelmed the common ones. The plaintiffs' injury and the defendant's District Court found that the presumption wrongful conduct had been established. of reliance created by the fraud-on-the-mar- See Affiliated Ute Citizens v. United ket theory provided "a practical resolution States, 406 U.S., at 153-154, 92 S.Ct., at to the problem of balancing the substantive 1472. Similarly, we did not require proof requirement of proof of reliance in securi- that material omissions or misstatements in ties cases against the procedural requisites a proxy statement decisively affected vot- of [Federal Rule of Civil Procedure] 23." ing, because the proxy solicitation itself,990 rather than the defect in the solicitation materials, served as an essential link in the transaction. See Mills 1). Electric Auto Lite 00., 396 US. 375, 384385, 90 S.Ct. 616, 62122, 24 L.Ed.2d 593 (1970). The modern securities markets, literally involving millions of shares changing hands daily, differ from the face-to-face Jintransactions contemplated by early fraud cases,\" and our understanding of Rule lob5's reliance requirement must cut compass these differences.22 \"In face-toface transactions, the inquiry into an investor's reliance upon informa~ tion is into the subjective pricing of that information by that investor. With the presence of a market, the market is inter- posed between seller and buyer and, ideally, transmits information to the in- vestor in the processed form of a market price. Thus the market is performing a substantial part of the valuation process performed by the investor in a faceto- face transaction. The market is acting as the unpaid agent of the investor, in- forming him that given all the informa~ tion available to it, the value of the stock is worth the market price.\" In re LTV Securities Litigation, 88 F'.R.D. 134, 143 (ND Tex.1980). Accord, 6.9., Fail 1). Speiser, 806 F.2d, at 1161 (\"In an open and developed market. the dissemination of material misrepresen- tations or withholding of material informa tion typically affects the price of the stock, and purchasers generally rely on the price of the stock as a reflection of its value"); Blackie 451). Barrack, 524 F.2d 891, 908 (CA9 1975) (\"[T]he same causal nexus can be adequately established indirectly, by 21. W. Keeton, D. Dobbs, R. Keeton & D. Owen, Presser and Keeton on Law of Torts 726 (51h ed. 1984) ("The reasons for the separate develop- ment of [the tort action for misrepresentation and nondisclosure], and for its peculiar limita- tions. are in part historical, and in part connecb ed with the fact that in the great majority of the cases which have come before the courts the misrepresentations have been made in the course of a bargaining transaction between the parties. Consequently the action has been col- ored to a considerable extent by the ethics of 108 SUPREME COURT REPORTER 485 U.S. 243 proof of materiality coupled with the com- mon sense that a stock purchaser does not ordinarily seek to purchase a loss in the form of artificially inflated stock"), cert. denied, 429 US. 816, 97 S.Ct. 57, 50 L.Ed.2d 75 (1976). B Presumptions typically serve to assist courts in managing circumstances in which direct proof, for one reason or another, is rendered difficult. See, e.g., 1 D. Louisell & C. Mueller, Federal Evidence 541542 (1977). The courts below accepted a pre- sumption, created by the fraudon-the-mar- ket theory and subject to rebuttal by peti- tioners, that persons who had traded Basic shares had done so in reliance on the integ- rity of the price set by the market, but because of petitioners' material misrepre- sentations that price had been fraudulently depressed. Requiring a plaintiff to show a speculative state of facts, i.e., how he would have acted if omitted material infor- mation had been disclosed, see A'iliated Ute Citizens v. United States, 406 U.S., at 153-154, 92 S.Ct., at 1472, or if the misrep- resentation had not been made, see Sharp 1:. Coopers & Lybrana', 649 F.2d 175, 188 (CA3 1981), cert. denied, 455 US. 938, 102 S.Ct. 1427, 71 L.Ed.2d 648 (1982), would place an unnecessarily unrealistic evidentia- ry burden on the Rule 10b5 plaintiff who has traded on an impersonal market. Cf. Mills v. Electric AutoLite Co, 396 U.S., at 385, 90 S.Ct., at 622. Arising out of considerations of fairness, public policy, and probability, as well as judicial economy, presumptions are also bargaining between distrustful adversaries") (footnote omitted). 22. Actions under Rule lob-5 are distinct from common-law deceit and miSrepresentation claims, see Blue Chip Slamps v. Manor Drug Stores, 421 US. 723, 744-745, 95 S.Ct. 1917, 1929-30, 44 L.Ed.2d 539 (1975), and are in part designed to add to the protections provided in- vestors by the common law, see Herman d'z MacLean v. Huddleston, 459 US 375, 388-389. 103 S.Ct. 683. 69091. 74 L.Ed.2d 548 (1983). 485 U.S. 247 BASIC INC. v. LEVINSON 991 Cite as 108 S.Ct. 978 (1988) useful devices for allocating the burdens of of the markets as indices of real value." proof between parties. See E. Cleary, H.R.Rep. No. 1383, at 11. Mccormick on Evidence 968-969 (3d ed. 1984); see also Fed.Rule Evid. 301 and See Lipton v. Documation, Inc., 734 F.2d Advisory Committee Notes, 28 U.S.C.App., 740, 748 (CA11 1984), cert. denied, 469 U.S. p. 685. The presumption of reliance em- 1132, 105 S.Ct. 814, 83 L.Ed.2d 807 (1985).23 ployed in this case is consistent with, and, [5] The presumption is also supported by facilitating Rule 10b-5 litigation, sup- by common sense and probability. Recent ports, the congressional policy embodied in empirical studies have tended to confirm the 1934 Act. In drafting that Act, Congress' premise that the market price of 1246 Congress expressly relied on the prem- shares traded on well-developed markets ise that securities markets are affected by reflects all publicly available information, information, and enacted legislation to fa- cilitate an investor's reliance on the integri- and, hence, any material misrepresenta- ty of those markets: tions.24 It has been noted that "it is hard "No investor, no speculator, can safely to imagine that |247there ever is a buyer or buy and sell securities upon the ex- seller who does not rely on market integri- changes without having an intelligent ba- ty. Who would knowingly roll the dice in a sis for forming his judgment as to the crooked crap game?" Schlanger v. Four- value of the securities he buys or sells. Phase Systems Inc., 555 F.Supp. 535, 538 The idea of a free and open public mar- (SDNY 1982). Indeed, nearly every court ket is built upon the theory that compet- that has considered the proposition has con- ing judgments of buyers and sellers as to cluded that where materially misleading the fair price of a security brings (sic] statements have been disseminated into an about a situation where the market price impersonal, well-developed market for se- reflects as nearly as possible a just price. curities, the reliance of individual plaintiffs Just as artificial manipulation tends to on the integrity of the market price may be upset the true function of an open mar- presumed.25 Commentators generally have ket, so the hiding and secreting of impor- applauded the adoption of one variation or tant information obstructs the operation another of the fraud-on-the-market theo- 23. Contrary to the dissent's suggestion, the in- professionals generally consider most publicly centive for investors to "pay attention" to is- announced material statements about compa- suers' disclosures comes from their motivation nies, thereby affecting stock market prices. o make a profit, not their attempt to preserve cause of action under Rule 10b-5. Facilitating 25. See, e.g., Peil v. Speiser, 806 F.2d 1154, 1161 an investor's reliance on the market, consistent- (CA3 1986); Harris v. Union Electric Co., 787 ly with Congress' expectations, hardly calls for F.2d 355, 367, and n. 9 (CA8), cert. denied, 479 "dismantling the federal scheme which man- U.S. 823, 107 S.Ct. 94, 93 L.Ed.2d 45 (1986); dates disclosure." See post, at 998. Lipton v. Documation, Inc., 734 F.2d 740 (CAll 1984), cert. denied, 469 U.S. 1132, 105 S.Ct. 814, 24. See In re LTV Securities Litigation, 88 F.R.D. 83 L.Ed.2d 807 (1985); T.J. Raney & Sons, Inc. 134, 144 (ND Tex.1980) (citing studies); Fischel, v. Fort Cobb, Oklahoma Irrigation Fuel Authori- Use of Modern Finance Theory in Securities y, 717 F.2d 1330, 1332-1333 (CA10 1983), cert. Fraud Cases Involving Actively Traded Securi- denied sub nom. Linde, Thomson, Fairchild, ties, 38 Bus.Law. 1, 4, n. 9 (1982) (citing litera Langworthy, Kohn & Van Dyke v. T.J. Raney & ture on efficient-capital-market theory); Dennis, Sons, Inc., 465 U.S. 1026, 104 S.Ct. 1285, 79 Materiality and the Efficient Capital Market L.Ed.2d 687 (1984); Panzirer v. Wolf, 663 F.2d Model: A Recipe for the Total Mix, 25 Wm. & 365, 367-368 (CA2 1981), vacated and remanded Mary L.Rev. 373, 374-381, and n. 1 (1984). We sub nom. Price Waterhouse v. Panzirer, 459 U.S. need not determine by adjudication what econo- 1027, 103 S.Ct. 434, 74 L.Ed.2d 594 (1982); Ross mists and social scientists have debated through v. A.H. Robins Co., 607 F.2d 545, 553 (CA2 1979), the use of sophisticated statistical analysis and cert. denied, 446 U.S. 946, 100 S.Ct. 2175, 64 the application of economic theory. For pur- L.Ed.2d 802 (1980); Blackie v. Barrack, 524 F.2d poses of accepting the presumption of reliance 891, 905-908 (CA9 1975), cert. denied, 429 U.S. in this case, we need only believe that market 816, 97 S.Ct. 57, 50 L.Ed.2d 75 (1976).992 ry.\" An investor who buys or sells stock at the price set by the market does so in reliance on the integrity of that price. Be- cause most publicly available information is reflected in market price, an investor's re liance on any public material misrepresen- tations, therefore, may be presumed for purposes of a Rule 10b5 action. 480 The Court of Appeals found that petition- ers "made public, material misrepresenta- tions and {respondents} sold Basic stock in an impersonal, efficient market. Thus the class, as defined by the district court, has established the threshold facts for proving their loss." 786 F.2d, at 751.27 The court acknowledged that petitioners may rebut proof of the elements giving rise to the presumption, or show that the misrepresen- tation in fact did not lead to a distortion of price or that an individual plaintiff traded or would have traded despite his knowing the statement was false. Id, at 750, n. 6. Any showing that severs the link be- tween the alleged misrepresentation and either the price received (or paid) by the plaintiff, or his decision to trade at a fair market price, will be sufficient to rebut the 26. See, e.g., Black. Fraud on the Market: A Criticism of Dispensing with Reliance Require ments in Certain Open Market Transactions, 62 N.C.L.Rev. 435 (1984); Note, The Fraud-on-the' Market Theory. 95 Harv.L.Rev. 1143 (1982); Note, Fraud on the Market: An Emerging Theo- ry of Recovery Under SEC Rule [Ob5, 50 Geo. Wash.L.Rev. 627 (1982). 27. The Court of Appeals held that in order to invoke the presumption, a plaintiff must allege and prove: (1) that the defendant made public misrepresentations: (2) that the misrepresenta- tions were material; (3) that the shares were traded on an efficient market; (4) that the mis- representations would induce a reasonable, rely- ing investor to misjudge the value of the shares; and (5) that the plaintiff traded the shares be- tween the time the misrepresentations were made and the time the truth was revealed. See 786 F.2d. at 750. Given today's decision regarding the defini- tion of materiality as to preliminary merger discussions, elements (2) and (4) may collapse into one. 28. By accepting this rebuttable presumption. we do not intend conclusively to adopt any particu- 108 SUPREME COURT REPORTER 485 US. 247 presumption of reliance. For example, if petitioners could show that the \"market makers" were privy to the truth about the merger discussions here with Combustion, and thus that the market price would not have been affected by their misrepresenta- tions, the causal connection could be bro- ken: the basis for finding that the fraud had been transmitted through market price would be gon