In 1934 Congress passed the Securities Exchange Act which created Rule 10b-5, codified at 17 C.F.R. 240.10b-5; ,it is one of the most important rules targeting securities fraud. The rule prohibits any act or omission resulting in fraud or deceit in connection with the purchase or sale of any security. It reads:
“Rule 10b-5: Employment of Manipulative and Deceptive Practices”: It shall be unlawful for any person, directly or indirectly, by the use of any means or instrumentality of interstate commerce, or of the mails or of any facility of any national securities exchange, (a) To employ any device, scheme, or artifice to defraud, (b) To make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading, or (c) To engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person, in connection with the purchase or sale of any security.”
In 1946 the US Supreme Court defined an “investment contract” as a security via a case between the Securities and Exchange Commission v. W. J. Howey Co., 328 U.S. 293 (1946). This is now referred to as the “Howey Test” 1. investment of money due to 2.an expectation of profits arising from 3.a common enterprise 4.which depends solely on the efforts of a promoter or third party.
On March 22, 2011, in a unanimous 9-0 decision, the U.S. Supreme Court in Matrixx Initiatives, Inc. v. Siracusano held that Statistically Insignificant Information can be “Material” Under Federal Securities Law”on the question of whether a plaintiff can establish that an issuer has violated prohibitions against making “material misstatements or omissions” under the federal securities laws when the information in question was “statistically insignificant.”
However while laws exist to protect investors, a report by the Financial Fraud Research Center—Scams, Schemes and Swindles: A Review of Consumer Financial Fraud Research—found that an estimated $40 billion to $50 billion of measurable, direct costs are lost to fraud annually.
The bottom line is to do your own research and contract review as many cases go unreported.
This article is for informational purposes only and is not a complete summary of information needed to recommend any investment. Consult the appropriate professional to determine how this information applies to your unique situation.
About the Author: Charles Marsala is a Financial Advisor with Benchmark Investment Group with Securities offered through LPL Financial, a member FINRA/SIPC. He can be contacted at Charles.Marsala@lpl.com