Corporate Governance

The Power of Myth

By Jason Cowart

In his latest book, ?20/20? reporter John Stossel attacked the media for fear mongering and debunked a variety of so-called ?myths.?  Stossel?s criticism is grounded in his view that although well intentioned, his brethren in the media often overlook facts because ?raising alarms makes us feel important? and ?the scary story, justified or not, will get higher ratings and sell more papers.?  I wish Stossel had borne this in mind before writing his April 4, 2008 opinion article, Small Victories for Tort Reform.

Ignoring facts, Stossel extends a valid rebuke of lawyers who bring frivolous lawsuits on their own behalf into the sweeping proposition that private securities fraud litigation should be abolished because it is duplicative of SEC actions and doesn?t help investors.  Authoritative sources across the political spectrum (including the Supreme Court, Congress, the SEC, and almost every public and private pension fund in the country) unanimously disagree.  They have concluded that private lawsuits are ?indispensable? and a ?necessary supplement? to SEC action, precisely because the SEC has insufficient resources to enforce the law on its own. The facts bear this out.  In 2007, investors recovered approximately $6 billion in fraud-related losses from private litigation after subtracting legal fees, dwarfing the approximately $500 million obtained by the SEC.  That money meant something to ordinary investors who rely on their IRAs and 401(k)s for retirement, and to those who invested money for their childrens? educations. It would not have been recovered without private lawsuits.

Stossel also ignores the facts regarding the number and quality of private securities lawsuits.  In 1995, Congress passed legislation making it significantly more difficult to plead and prove securities fraud claims.  The law also requires courts to determine in every case whether the claims were frivolous and to sanction lawyers who brought such claims.  It worked. According to the Stanford Securities Class Action Clearinghouse, 2007 represented the third lowest annual level of filings since 1995 and was 14% below the ten-year average from 1996 to 2006.  This is despite the fact that total losses associated with the fraud claims that were alleged totaled $151 billion, an increase of 188% relative to 2006 and an 18% increase relative to the ten-year average from 1997 to 2006. 

Unless we are prepared to dramatically increase the SEC?s enforcement budget (a proposal that is unlikely to generate much excitement anytime soon), the only way that anti-fraud statutes are going to be enforced is if investors hire lawyers to do it.  At a time when investors are only beginning to understand the fraudulent activities that caused, and exacerbated, the current credit crisis, this is the unexciting ?truth? that Stossel should be writing about.

Full post as published by PomTalk on April 18, 2008 (boomark / email).