Amicus Brief — Transamerica Mortgage Advisors, Inc. v. Lewis

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Supreme Court us 7

FIL ED

1.9. 77-1645 FEB 9 4979

“8, CLERK

Iu the Supreme Court of the United States

OCTOBER TERM, 1978

TRANSAMERICA MORTGAGE ADVISERS,

INC., ET AL., PETITIONERS

Vv.

HARRY LEWIS

ON WRIT OF CERTIORARI TO THE

UNITED STATES COURT OF APPEALS FOR

THE NINTH CIRCUIT

BRIEF FOR THE

SECURITIES AND EXCHANGE COMMISSION

AS AMICUS CURIAE

WADE H. MCCREBR, JR.

Solicitor General

FRANK H. EASTERBROOK

Deputy Solicitor General

STEPHEN M. SHAPIRO

Assistant to the Solicitor General

RALPH C. FERRARA Department of Justice

General Counsel Washington, D.C. 20530

PAUL GONSON

Principal Associate General Counsel

JAMES H. SCHROPP

Assistant General Counsel

ANNE C, FLANNERY

Attorney

Securities and Exchange Commission

Washington, D.C. 20549

Question presented _......... hat Hee al ROR EURO

Interest of the Securities and Exchange Com-

IN siteanerbtindesdistoncnses bdatkadsiSipliskeabilbadninobiaiitoan

BIT pele nitetdigtinstcactnneeecieded aucesess

A defrauded client of an investment ad-

viser may bring suit under Section 206 of

the Investment Advisers Act of 1940 ......

A. The Trust and its shareholders are

members of the class for whose espe-

cial benefit the Investment Advisers

PS fee

B. There is no indication that Congress

intended to foreclose private reme-

SI stininanidcticarnnioiblananischincsabeite Shgesbhepiens sean

C. Private remedies are consistent with

the underlying purpose of the statute

and necessary to achieve the goals of

I esinostsnenitissfuicihainapeiiinibcatnmnsiladnond

D. Regulation of investment advisers

has not been a traditional concern

of the States, and defrauded clients

should not be remitted to State law

SIE «ce veaconuéscisacodenigtanibhines:,txcatns

E. Private remedies under the Act are

consistent with Blue Chip Stamps...

I hii i oe a

of we

CITATIONS

Cases: Page

Abrahamson v. Fleschner, 568 F.2d 862,

cert. denied, 436 U.S. 913 .................--.--- passim

Affiliated Ute Citizens v. United States,

EE: AER RSI ENC nr nena woe o.. 10, 44

Allen v. State Board of Elections, 393

ON i a oS aslenannpeenanomengi 22

Angelakis v. Churchill Management Corp.,

[1975-1976] CCH Fed. Sec. L. Rep.

BIN ice ncdéctetirncieniokiCeestnnnveielanianintpnirs 5

Barnes v. Peat, Marwick, Mitchell & Co.,

69 Misc. 2d 1068, 332 N.Y.S. 2d 281,

modified on other grounds, 42 App. Div.

98:16, 344 N.Y-S. 3a 646.-.............:........ 39

Bell v.. Heed, Gat US. 676..................—... 23

Bivens v. Six Unknown Named Agents,

BA IE once Sis ocecaiy civhssnnscoemivanawiniabende 10, 23

Blue Chip Stamps v. Manor Drug Stores,

I soe oae volcanipcngatsmeremeemtnancosti passim

Bolger v. Laventhol, Krekstein. Horwath

& Horwath, 381 F. Supp. 260 .............. 5

Brown v. Bullock, 35 Mise. 2d 370, 230

N.Y.S. 2d 660, aff'd, 17 App. Div. 2d

WE hf ea Gy SOR ote 40

Cort v. Ash, 422 U.S. 66....6, 11, 16, 22, 28, 34, 36

Courtland v. Walston & Co., Inc., 340 F.

BN MINE gc cshnbavandnabiossannituasintonenmasinnentnts 5

Davis v. Passman, No. 78-5072, cert.

granted (Oct. 30, 1975) ........................ 12

Ernst & Ernst v. Hochfelder, 425 U.S.

I a a ashe alia Calon tasiganatiniae 44

Fischman v. Raytheon M Ig. Co., 188 F.2d

BE aaliceslibedeacadsitawihe consis csck =a comdesncestmapece teats 11

Ill

Cases—Continued Page

Fox v. Prudent Resources Trust, 382 F.

I OR. sittinnictanelascinepavdanace cents 5

Fund of Funds, Ltd. v. Vesco, [1976-

1977] CCH Fed. See. L. Rep. § 95,644.. 5

Gammage v. Roberts, Scott & Co., [1974-

1975] CCH Fed. Sec. L. Rep. § 94,761.. 5

Goldstein v. Groesbeck, 142 F.2d 422,

cert. denied, 323 U.S. 787 ...................... 11

Greenspan v. Del Toro, [1975-1976] CCH

Fed. Sec. L. Rep. 7 95,488 .................... 5

Gross v. Diversified Mortgage Investors,

SG8 2. CDs DOO tei en 5

Hazzard v. Chase National Bank of City

of New York, 159 Mise. 57, 287 N.Y.S.

541, aff'd, 282 N.Y. 652, 26 N.E. 2d

OTE: Sow sathi- alight necala taht eetiglintalat pee seer 39

Hecht Co. v. Bowles, 321 U.S. 321 ............ 26

Herdegen v. Paine, Webber, Jackson &

Curtis, 31 Misc. 2d 104, 220 N.Y.S. 2d

| a i Read EL epee Nn 2 40

Intersearch Technology, Inc., [1974- 1975]

CCH Fed. Sec. L. Rep. § 80, RO eck 43

J. I. Case Co. y. Borak, 377 U.S. 426 ........ passim

Jones v. Equitable Life Assurance So-

ctety, 409 F. Supp. 376 ........................ 5

Jones Memorial Trust v. Tsai Investment

Services, Inc., 367 F. Supp. 491 __...... 40

Kardon v. National Gypsum Co., 69 F.

PY SOE anteater Sa 7, 10-11, 24

Kauffman v. Dreyfus Fund, Inc., 484 F.2d

TO Race dncidkeiagemieniecgdlcontig theca 5

Koos v. Ludwig, 22 App. Div. 2d 666, 253

Fe EE OW sede Sette abbas oe 40

Cases—Continued Page

Levine v. Silverman, 43 Mise. 2d 415, 251

K.YS. SB @ 2. 40

Marketlines, Inc. v. SEC, 384 F.2d 264,

cert. denied, 390 U.S. 947 ....................-- 43

McLaughlin, In re Estate of, 43 Cal. 2d

468, 274 P. 28 O66 W..ceeeee 39

Miller v. Livingstone, 25 App. Div. 2d

106, 267 N.Y.S. 2d 249, aff’d, 18 N.Y.

24 007, £76 A.T SE. 2 eo 40

Mills v. Electric Auto-Lite Co., 396 U.S.

> | RRR TORAH ena omE un Faisal Sete Oe 2,10, 44

Morris v. Gressette, 482 U.S. 491 -........ 31

National Railroad Passenger Corp. v. Na-

tional Association of Railroad Passen-

Pg We EE Se | Pee aS 30, 31

Piper v. Chris-Craft Industries, Inc., 480

tS | Sak Sipeeent eemkonesmerre nce Onc. 7, 11, 29, 34, 36

Porter v. Warner Holding Co., 328 U.S.

SID sarcssimsninsepltnopihgneoceintetesSipepagaceeeeeees 25

Regents of the University of California

v. Bakke, No. 76-811 (June 28, 1978).. 12, 33

Reserve Management Corp. v. Anchor

Daily Income Fund, Inc., [1978] CCH

Fed. Sec. L. Rep. J 96,566 -.................... 44

Ridings’ Estate, In re, 297 N.Y. 417, 79

Pe cBs SIU. COD csinnscsctcasicaniiecniecchtaeelicaiaeaiaee 39

Rondeau v. Mosinee Paper Corp., 422

Lik Se Bpmmnmmmana nena att ios i 25

Santa. Fe Industries, Inc. v. Green, 430

U2 SEP incmunmncnnaeee 2, 6, 8, 13, 29, 36

SEC v. Capital Gains Research Bureau,

Fat., TS US. 300. .cks.ncacmeeanee passim

SEC v. C. R. Richmond & Co., 565 F.2d

BIE asnicscsnecesisns:sncsaincnSeicenineetsscncialea ae 43

Cases—Continued Page

SEC v. National Secur%ties, Inc., 393 U.S.

eid ea nnnsttier cin cobe-unstieeshasonncd 38, 44

SEC v. Seipel, [1952- -1956] CCH Fed. Sec.

L. Rep. { 90,735, aff’d, 229 F.2d 752. .. 43

SEC v. United Benefit Life Insurance Co.,

| ___ i aES S EE I E EE ae 38

SEC v. Variable Annuity Life Ins. Co.,

Se Sa a ene a 38

Securities Investor Protection Corp. v.

Barbour, 421 U.S. 412 ............ 22, 23, 30, 32, 34

Southeastern Community College v. Davis,

No. 78-711, cert. granted (Jan. 8,

I aca ai ssa seen paloaisesitsanoonnonac 12

Steadman Security Corp., [1977-1978]

CCH Fed. Sec. L. Rep. § 81,2438, appeal

pending, No. 77-2415 (5th Cir.) -......... 43

Sullivan v. Chase Investment Services of

Boston, Inc., 484 F. Supp. 171 ............. 5, 24, 41

Superintendent of Insurance v. Bankers

Life & Casualty Co., 404 U.S. 6.00... 8, 10, 38

Texas & Pacific Ry. v. Rigsby, 241 U.S.

RES SSAC: SSA RAT Dg ee nO RES

Touche Ross & Co. v. Redington, No. 78-

309, cert. granted (Nov. 27, 1978)......

TSC Industries, Inc. v. Northway, Inc.,

gk SEES SR ean a

Tunstall v. Brotherhood of Locomotive

Firemen & Enginemen, 323 U.S. 210....

Twomey v. Mitchum, Jones & Templeton,

Inc., 262 Cal. App. 2d 690, 69 Cal.

Reptr. (EEO LSE Ne ERE pe eon

Van Deusen, In re Estate of, 37 App. Div.

me tok, Sen NE. 20 961 ....................

VI vit

Cases—Continued Page

Wilson v. First Houston Investment Corp., no date a rage

566 F.2d 1235, petition for cert. pend- Section 215(b), 15 U.S.C. 80b-15

a Ey Sy ae 4, 14, 16, 23, 40-41 OOP ile pate 2A, 25

Wyandotte Transportation Co. v. United Section 217, 15 U.S.C. 80b-17 35

States, 389 U.S. 191 n-ne 25, 34 Investment Company Act of 1940, 15

Young v. Seaboard Corp., 360 F. Supp. U.S.C. 80a-1 i ple , er 39

Bitar Santee CEG LOTR A pad Bae NE NS ne es (ee Pine emer nee Sg WI FEE os EP Ty

Section 30(f), 15 U.S.C. 80a-29(f).. 20

Statutes and regulations: Section 36(b), 15 U.S.C. 80a-35(b).. 26

Freedom of Information Act, 5 U.S.C. Section 44, 15 U.S.C. 80a-43 ............ 16

RASTA BRE GI AT teal ee AR RT 22 Public Utility Holding Company Act of

Internal Revenue Code of 1954 (26 1935, Section 25, 15 U.S.C. 79y ............ 16, 17

U.S.C.), Sections 856-858 ...................... 2 Securities Act of 1933, Section 22(a), 15

Investment Advisers Act of 1940, 15 ReMi WU UNED ccshvewteccerciccheasninsmiaotacccetesies 16

SoS ote OS A 3S See ee ee aette 2, 39 Securities Exchange Act of 1934, 15

Section 203, 15 U.S.C. 80b-3 ............. 18, 35 bibsandet abies vi,

Section 208(c) (1), 15 U.S.C. 80b-3 Section 9(e), 15 U.S.C. 78i(e) ........ 21

LG UAE RES Cony Ae slept aT 35 Section 10(b), 15 U.S.C. 78j(b) ..... 7, 8,10,

Section 203(e), 15 U.S.C. 80b-3(e).. 35 14, 21, 38, 42

Section 204, 15 U.S.C. 80b-4 00000... 35 Section 14(a), 15 U.S.C. 78n(a) ....7, 10, 14

Section 205, 15 U.S.C. 80b-5 ............ 35 Section 14(e), 15 U.S.C. 78n(e) ....... 11

Section 206, 15 U.S.C. 80b-6 ..... passim Section 15, 15 U.S.C. 780 -..W2.... 35

Section 206(1), 15 U.S.C. 80b-6(1).. 42 Section 16(b), 15 U.S.C. 78p(b) ...... 20, 21

Section 206(2), 15 U.S.C. 80b-6(2).. 42 Section 18, 15 U.S.C. 78r .................. 21

Section 206(3), 15 U.S.C. 80b-6(3).. 42 Section 27, 15 U.S.C. 78aa.. 16, 23

Section 206(4), 15 U.S.C. 80b-6(4).. 18, i Trust Indenture Act of 1939, 15 U.S.C.

Sections 208-221, 15 U.S.C. 80b-8 to ba nae Meost ts. Ramer aarmn gira cen 89

OS a Fle EAS Cee ee 20 Section 322(b), 15 U.S.C. 77vvv(b).. 16

Section 209(e), 15 U.S.C. 80b-9(e).. 35 ia i | isl ete 13

Section 210(a), 15 U.S.C. 80b-10(a).. 35 eo ° (a nee RrUN ans 29

Section 211, 15 U.S.C. 80b-11 _......... 35 We UU Ae as noe 15, 22-23

Section 214, 15 U.S.C. 80b-14 passim

Section 215, 15 U.S.C. 80b-15 ......... 7 LT C.PLR. 275.2042 nn nnn eeeeecneeeeecceees 35

pa RE Te Sian ee orbs mercate Ue cere h 35

VIII

Statutes and regulations—Continued Page

RUIN MINIT Sestenncccsassicenssansevanecccengece 35

Bi RII oacicncncvncnsssacesnanpenonccncses 35

Be a PRC N SE Sinscccccccevencnssncececene 35

BR ON cscerccsecervoceseeanscsosvence 35

Miscellaneous:

Ahart, Suggested Amendments to the In-

vestment Advisers Act, 6 Sec. Reg. L.

Dr NE I 2k nicees cal uaccamapbnitesenenineiensl 37

Comment, Private Rights of Action Under

Amtrak and Ash, 123 U. Pa. L. Rev.

IO tc 16

Confidential Committee Print, S. 3580, 76th

Cong., 3d Sess. Section 213 (1940) ...... 19

86 Cong. Rec. 9815, 9816 (1940) _W000.00.... 29

86 Cong. Rec. 2844-2845 (1940) ..000....... 28

A. Corbin, Contracts:

RN feos seescsisecidesidiebteniasoaee 25

PE UR MI snc sai cactlucinnankibesssniiens 25

D. Dobbs, Remedies (1978) ...................... 25

H.R. 8935, 76th Cong., 8d Sess. (1940)... 17

SIN MND Sue ake vnehentedniseiadassininisardone 17

I ic it 17

H.R. Rep. No. 26389, 76th Cong., 3d Sess.

II tans deccigecladakgchns< Uideatasnesiiitaseindes 14, 20, 28

H.R. Rep. No. 91-1382, 91st Cong., 2d

TID capa catia tranctvereiavice 26

Hearings on H.R. 10065 Before a Sub-

comm. of the House Comm. on Inter-

state and Foreign Commerce, 76th

eo Sy ee ee 18, 19, 36

Miscellaneous—Continued Page

Hearings on H.R. 12981 Before the Sub-

comm. on Consumer Protection and Fi-

nance of the House Comm. on Inter-

state and Foreign Commerce, 94th

OU, TE TN. CET) cccceescieiwescyccsssncnere 27

Hearings on S. 8580 Before a Subcomm.

of the Senate Comm. on Banking and

Currency, 76th Cong., 3d Sess. (1940)... 18, 19,

29, 36

Hearings on S. 2849 Before the Subcomm.

on Securities of the Senate Comm. on

Banking, Housing and Urban Affairs,

94th Cong., 2d Sess. (1976) ............... 27, 28, 37

III L. Loss, Securities Regulation (2d ed.

SOPED scot Ielasiiocamdidecssaduikgecteissuhsedeneansebeadins 24, 38

McClintock on Equity (2d ed. 1948) ........ 25

Note, Private Causes of Action Under

Section 206 of the Investment Advisers

Act, 74 Mich. L. Rev. 308 (1975) ........ 37

Note, The Regulation of Investment Ad-

visers, 14 Stan. L. Rev., 827 (1962).... 40

III Scott on Trusts (8d ed. 1967) ............ 25

SEC, 48rd Annual Report (1979) ............ 32, 33

SEC, Institutional Investor Study Report,

H.R. Doc. No. 92-64, 92d Cong., 1st

Reh nee ae 32

SEC, Report of the Special Study of Se-

curities Markets, H.R. Doc. No. 95, Pt.

1, 88th Cong., Ist Sess. (1968) ............. 37

SEC, Report on Investment Trusts and In-

vestment Companies (Investment Coun-

sel and Investment Advisory Services),

H.R. Doe. No. 477, 76th Cong., 2d Sess.

RID | nilsatasceavaladbend@akiniedocsaleviandninnectetictirtnsgnlee 14

Miscellaneous—Coutinuea Page

SEC, Seventh Annual Report (1941)...... 32

S. 3580, 76th Cong., 3d Sess. (1940)........ 17

I TITIES wheiaicvscdencesisticskeriaeisavcecnici 17

SINE UIE piled <cicdictocapnacnsesishinneitionioses 17

S. 4108, 76th Cong., 3d Sess. (1940) ....... 19, 20

Section 30(f) .................--+. viedcabancceladaone 20

SN I dec otic neninkaccnineildiesshest 20

I atl 19, 20

S. 2849, 94th Cong., 2d Sess. Section 6

RPMI hckthidceilaed whe hamachi cv eisticksdasabbeenmoulés 26

S. Rep. No. 1775, 76th Cong., 3d Sess.

ERENT MRE 8, 13, 15, 17, 20, 28, 36

S. Rep. No. 1760, 86th Cong., 2d Sess.

(1960) ........... Fisscencunipisadiscidida tein tudstaascceaneestes 6, 14

S. Rep. No. 91-184, 91st Cong., 1st Sess.

Cy INOS REI a an hi LACE ORR 26

S. Rep. No. 94-910, 94th Cong., 2d Sess.

GEE aia haceniisektichan sited deaicenpincccanselsuaibarilinc es 27

Iu the Supreme Court of the United States

OCTOBER TERM, 1978

No. 77-1645

TRANSAMERICA MORTGAGE ADVISERS,

INC., ET AL., PETITIONERS

HARRY LEWIS

ON WRIT OF CERTIORARI TO THE

UNITED STATES COURT OF APPEALS FOR

THE NINTH CIRCUIT

BRIEF FOR THE

SECURITIES AND EXCHANGE COMMISSION

AS AMICUS CURIAE

QUESTION PRESENTED

Whether there is a private right of action under

Section 206 of the Investment Advisers Act of 1940.

INTEREST OF THE SECURITIES AND

EXCHANGE COMMISSION

The Securities and Exchange Commission is re-

sponsible for the administration and enforcement of

(1)

the Investment Advisers Act of 1940, 15 U.S.C. 80b-1

et seg. The Commission’s enforcement proceedings

seeking to enjoin fraudulent practices of investment

advisers are ordinarily “mild prophylactic” measures

(SEC v. Capital Gains Research Bureau, Inc., 375

U.S. 180, 198 (1963)) that generally do not provide

redress to clients of advisers who are injured by

fraud. The Commission therefore believes that a

private right of action for damages and injunctive

relief under Section 206 of the Act, 15 U.S.C. 80b-6,

is necessary to protect such clients and to make ef-

fective the “federal fiduciary standards” (Santa Fe

Industries, Inc. v. Green, 430 U.S. 462, 471 n.11

(1977) ) prescribed by Congress. Here, as elsewhere,

private redress would serve as a “necessary sup;

plement” to the Commission’s own enforcement pro-

ceedings. Mills v. Electric Auto-Lite Co., 396 U.S.

375, 382 (1970); J. I. Case Co. v. Borak, 377 U.S.

426, 432 (1964).

STATEMENT

1. Respondent, a shareholder of petitioner Mort-

gage Trust of America (“Trust”), filed this suit in

April 1973. The suit was brought as a derivative

action on behalf of the Trust and as a class action on

behalf of similarly situated shareholders. The com-

plaint alleges that the Trust is a real estate invest-

ment trust within the meaning of Sections 856-858

of the Internal Revenue Code of 1954. The Trust was

established to invest in a diversified portfolio of real

estate mortgages, incluaing construction and develop-

ment mortgages, permanent first and junior mort-

gages, and certain equity interests in real estate (A.

4). At the time the action was commenced, approxi-

mately 3,582,000 shares of beneficial interest in the

Trust were outstanding (A. 5). Petitioner Trans-

america Mortgage Advisors, Inc. (“TAMA”) is the

investment adviser to the Trust and administers its

day-to-day operations; the Trust is and always has

been TAMA’s only client (Pet. Br. 3). Petitioner

Transamerica Corporation is the sponsor of the Trust

and the parent of petitioner Transamerica Land

Capital Ine. (“Land Capital”). Land Capital is the

parent of TAMA, through a wholly-owned subsidiary,

Transamerica Mortgage Company (Pet. Br. 3), which

sold the Trust its original investment portfolio of

mortgages (A. 29). The individual petitioners are

trustees of the Trust (Pet. Br. 3). Several of these

trustees have been affiliated with Transamerica Cor-

poration, TAMA, or other subsidiaries of Transamer-

ica Corporation (A. 6-7).

2. The complaint sets forth six claims. The first

and fourth claims allege that the advisory contract

between TAMA and the Trust is unlawful because

TAMA and Transamerica Corporation have never

registered under the Investment Advisers Act (A. 9).

The complaint also alleges that TAMA and Trans-

america Corporation have received grossly excessive

compensation under the contract (A. 10). The second

and fifth claims allege that TAMA and Transamerica

Corporation caused the Trust to purchase securities

from Land Capital. Those securities purchases are

alleged to be the result of self-dealing and breach of

‘=,

fiduciary duty, causing financial injury to the Trust

(A. 14-16). The third and sixth claims allege that

TAMA and Transamerica Corporation have withheld

profitable investment opportunities from the Trust

and have appropriated those opportunities for the

benefit of other Transamerica affiliates (A. 17-18).

The first three claims are stated derivatively on be-

half of the Trust and against those responsible for

the allegedly improper conduct. The other ciaims are

pleaded on behalf of the class of the Trust’s share-

holders.

The complaint seeks injunctive relief to restrain

further performance of the advisory contract; rescis-

sion of the advisory contract; restitution of fees and

other consideration paid by the Trust; an accounting

of illegai profits; and an award of damages (A. °0-

21).

3. In March 1974 petitioners moved to dismiss the

complaint. The district court granted the motion,

concluding that “Section 206 * * * affords no private

right of action” (A. 25). The court of appeals re-

versed, holding that “implication of a private right

of action for injunctive relief and damages under the

Advisers Act in favor of appropriate plaintiffs is

necessary to achieve the goals of Congress in enacting

the legislation” (A. 31). The court pointed out that

the Fifth and Second Circuits have held that such ac-

tions may be maintained. See Wilson v. First Houston

Investment Corp., 566 F.2d 1235 (5th Cir. 1978), pe-

tion for cert. pending, No. 77-1717; Abrahamson v.

Fleschner, 568 F.2d 862 (2d Cir. 1977), cert. denied,

436 U.S. 913 (1978). Without repeating the discus-

sion contained in Abrahamson and Wilson, the court

of appeals in this case adopted the rationale of the

majority in both of those cases.* Judge Wallace, in

dissent, adopted the position of Judge Gurfein, who

dissented in Abrahamson v. Fieschner, supra, 568

F.2d at 879-887.

Although petitioners argued that they were not

subject to the provisions of the Investment Advisers

Act, that respondent’s class action claims were im-

proper, and that a derivative action could not be

maintained without a prior demand on the trustees,

1A number of district courts previously had found that

private plaintiffs may sue to enforce Section 206 of the In-

vestment Advisers Act. See Sullivan v. Chase Investment

Services of Boston, Inc., 434 F. Supp. 171, 179 (N.D. Cal.

1977) ; Fund of Funds, Ltd. v. Vesco, [1976-1977] CCH Fed.

Sec. L. Rep. % 95,644 at 90,197-90,198 (S.D. N.Y. 1976);

Angelakis v. Churchill Management Corp., [1975-1976] CCH

Fed. Sec. L. Rep. * 95,285 at 98,463-98,464 (N.D. Cal. 1975) ;

Jones V. Equitable Life Assurance Society, 409 F. Supp. 370,

373 (S.D. N.Y. 1975); Bolger v. Laventhol, Kekstein, Hor-

warth & Horwarth, 381 F. Supp. 260, 265, 268 (S.D. N.Y.

1974). See also Kauffman v. Dreyfus Fund, Inc., 434 F.2d 727,

732-734 (3d Cir. 1970) ; Gross v. Diversified Mortgage Inves-

tors, 431 F. Supp. 1080, 1094-1095 (S.D. N.Y. 1977); For v.

Prudent Resources Trust, 382 F. ‘Supp. 81, 90-92 (E.D. Pa.

1974) ; Young v. Seaboard Corp., 360 F. Supp. 490, 497 (D.

Utah 1973) ; Courtland v. Walston & Co., Inc., 340 F. Supp.

1076, 1082-1085 (S.D. N.Y. 1972). Two district courts have

held that private remedies do not exist. See Greenspan v. Del

Toro, [1975-1976] CCH Fed. Sec. L. Rep. © 95,488 (S.D. Fla.

1974) ; Gammage v. Roberts, Scott & Co.. Inc., [1974-1975]

CCH Fed. Sec. L. Rep. © 94,761 (S.D. Cal. 1974). Those two

decisions are of little effect because they are from circuits

(the Fifth and Ninth) in which appellate opinions thereafter

allowed private actions.

the court of appeals declined to consider those issues

because the district court had not decided them (A. 30).

SUMMARY OF ARGUMENT

A private right of action for damages in favor of

defrauded clients of an investment adviser is neces-

sary to effectuate Congress’ purpose in enacting Sec-

tion 206 of the Investment Advisers Act, 15 U.S.C.

80b-6.

1. Respondent, the other shareholders and the

Trust itself are among the class of persons for whose

“especial benefit” (Cort v. Ash, 422 U.S. 66, 78

(1975)) the antifraud provision was enacted. Sec-

tion 206, 15 U.S.C. 80b-6, prohibits fraud involving

“any client” of an investment adviser. Congress

sought to protect such clients “against malpractices

by persons paid for advising others about securities.”

S. Rep. No. 1760, 86th Cong., 2d Sess. 1 (1960).

The decisions of this Court recognize that purpose.

SEC v. Capital Gains Research Bureau, Ine., 375

U.S. 180, 191-201 (1963); Santa Fe Industries, Inc.

v. Green, 430 U.S. 462, 471 n.11 (1977).

2. Although the Investment Advisers Act de. ~ot

explicitly authorize private suits, there is no indica-

tion that Congress intended to foreclose private relief.

The omission of language expressly authorizing pri-

vate actions is common to many antifraud provisions

in the securities laws, yet there was unquestionably a

congressional desire that remedies be available to

eliminate fraudulent practices and to protect the

interests of clients of investment advisers. Congress

has expressly provided that contracts and transactions

in violation of the Act are void (Section 215, 15

U.S.C. 80b-15) and, as the court observed in the

seminal decision with respect to implied remedies un-

der Section 10(b) of the Securities Exchange Act,

Kardon v. National Gypsum Co., 69 F. Supp. 512,

514 (E.D. Pa. 1946), “a statutory enactment that a

contract of a certain kind shall be void almost neces-

sarily implies a remedy in respect of it.” See also

Blue Chip Stamps v. Manor Drug Stores, 421 U.S.

723, 735 (1975). :

3. A private right of action for damages is con-

sistent with the purpose of Section 206. Private

remedies would deter fraud and compensate injured

clients. Such remedies also would be consistent with

this Court’s holding that the Act should be inter-

preted ‘‘not technically and restrictively, but flexibly

to effectuate its remedial purposes.” SEC v. Capital

Gains Research Bureau, Inc., supra, 375 U.S. at 195.

A private remedy here would not conflict with

public enforcement of the statute. To the contrary,

“congressional purposes are likely to be undermined

absent private enforcement” (Piper v. Chris-Craft

Industries, Inc., 480 U.S. 1, 25 (1977)). The Com-

mission does not have the resources needed to police

this industry, and injunctions obtained by the Com-

mission are inadequate to protect the economic in-

terests of defrauded clients. A private right of action

is necessary to achieve the remedial purposes of

Section 206, just as a private right of action is neces-

sary to achieve the purposes of Section 14(a) (see

J. I. Case Co. v. Borak, 377 U.S. 426, 431-435

(1964) ) and Section 10(b) of the Securities Ex-

change Act of 1934 (see Blue Chip Stamps v. Manor

Drug Stores, supra, 421 U.S. at 730).

4. Congress’ creation of a national system of regu-

lation, and its intention “to establish federal fiduciary

standards for investment advisers” (Santa Fe Indus-

tries, Inc. v. Green, supra, 430 U.S. at 471 n.11),

demonstrate the inappropriateness of relying on state

law te redress private losses of the kind involved

here. The need to develop uniform federal standards,

and to require investment advisers to conduct their

business in compliance with the policies of Congress

(SEC v. Capital Gains Research Bureau, Inc., supra,

375 U.S. at 186-201), weighs heavily against reliance

on state law principles. At the time of enactment of

the statute, Congress emphasized “that the solution of

the problems and abuses of investment advisory serv-

ices * * * cannot be effected without Federal legis-

lation.” S. Rep. No. 1775, 76th Cong., 3d Sess. 21

(1940). Because the right asserted is “federal” in

nature (J. J. Case Co. v. Borak, supra, 377 U.S. at

434), “there is redress” in federal court ‘“what-

ever might be available as a remedy under state law.”

Superintendent of Insurance v. Bankers Life &

Casualty Co., 404 U.S. 6, 12 (1971).

5. A private remedy for violation of the antifraud

provision of the Investment Advisers Act is consistent

with this Court’s decision in Blue Chip Stamps v.

Manor Drug Stores, supra. Unlike the situation in

Blue Chip Stamps, where the plaintiff allegedly re-

frained from purchasing securities in reliance on

false statements, a defrauded client is more than a

mere “bystander” on the periphery of the securities

markets; a “privity of dealing or even personal

contact between potential defendant and potential

plaintiff” is the rule, rather than the exception, in

litigation under the Investment Advisers Act. Blue

Chip Stamps v. Manor Drug Stores, supra, 421 U.S.

at 745, 747. Thus, although Section 206 of the In-

vestment Advisers Act does not ccntain a requirement

that the fraud complained of be in connection with a

purchase or sale of a security, the plaintiff class is

limited to defrauded clients of the defendant adviser.

Where the adviser engages in fraudulent practices

that injure this class of beneficiaries, private rights

of action may be recognized without danger of “‘iabil-

ity in an indeterminate amount for an indeterminate

time to an indeterminate class.” 421 U.S. at 748.

ARGUMENT

A DEFRAUDED CLIENT OF AN INVESTMENT AD-

VISER MAY BRING SUIT UNDER SECTION 206 OF

THE INVESTMENT ADVISERS ACT OF 1940

“[D]isregard of the command of [a] statute is a

wrongful act, and where it results in damage to one

of the class for whose especial benefit the statute was

enacted, the right to recover the damages from the

party in default is implied * * *.” Texas & Pacific

Ry. v. Rigsby, 241 U.S. 33, 39 (1916). See also

Tunstall vy. Brotherhood of Locomotive Firemen &

Enginemen, 323 U.S. 210, 213 (1944). These and

many other decisions establish that courts ordinarily

should grant remedies to private plaintiffs where

“necessary to effectuate the congressional policy un-

derpinning the substantive provisions of the statute.”

See Bivens v. Six Unknown Named Agents, 403 U.S.

388, 402 (1971) (Harlan, J., concurring).

This Court has repeatedly held that private per-

sons may recover damages or obtain injunctions when

they have been injured by violations of the provisions

of the federal securities laws that were designed to

protect persons situated similarly to the plaintiffs.

See J. I. Case Co. v. Borak, supra, 377 U.S. at 433

(‘it is the duty of the courts to be alert to provide

such remedies as are necessary to make effective the

congressional purpose”); Mills v. Electric Auto-Lite

Co., 396 U.S. 375, 381-889 (1970); and TSC indus-

tries, Inc. v. Northway, Inc., 426 U.S. 488, 444

(1976) (recognizing implied rights of action under

Section 14(a) of the Securities Exchange Act of

1934). See also Superintendent of Insurance v. Bank-

ers Life & Casualty Co., 404 U.S. 6, 138 n.9 (1971) ;

Blue Chip Stamps v. Manor Drug Stores, 421 U.S.

723, 730 (1975); and Affiliated Ute Citizens v.

United States, 406 U.S. 128, 150-157 (1972) (recog-

nizing implied rights of action under Section 10(b)

of the Securities Exchange Act).’

* Private rights of action have been recognized by the fed-

eral courts under the securities laws for more than thirty

years. See Kardon v. National Gypsum Co., 69 F. Supp. 512

Recent decisions of this Court have specified the

considerations that govern whether courts should rec-

ognize a private right of action when the statute

creating the substantive right is silent. See Cort v.

Ash, 422 U.S. 66, 78 (1975) (citations omitted; em-

phasis by the Court) :

First, is the plaintiff ‘one of the class for whose

especial benefit the statute was enacted”-—

that is, does the statute create a federal right

in favor of the plaintiff? Second, is there any

indication of legislative intent, explicit or im-

plicit, either to create such a remedy or to deny

one? Third, is it consistent with the under-

lying purposes of the legislative scheme to im-

ply such a remedy for the plaintiff? And

finally, is the cause of action one traditionally

relegated to state law, in an area basically the

concern of the States, so that it would be inap-

propriate to infer a cause of action based solely

on federal law?

This four-part test was applied by the Court in Piper

v. Chris-Craft Industries, Inc., 4830 U.S. 1 (1977), to

determine whether a defeated tender-offerer could in-

voke an implied right of action under Section 14(e) of

the Securities Exchange Act of 1934, 15 U.S.C. 78n(e).*

(E.D. Pa. 1946), referred to by this Court as “‘the seminal de-

cision” in Blue Chip Stamps v. Manor Drug Stores, supra,

421 U.S. at 730. See also Fischman v. Raytheon Mfg. Co., 188

F.2d 783, 787 (2d Cir. 1951); Goldstein v. Groesbeck, 142

F.2d 422, 427 (2d Cir.), cert. denied, 323 U.S. 737 (1944).

’ This Court concluded that a defeated tender-offeror should

not have a private remedy because the tender-offeror was not

the special beneficiary of that statute. Piper did not, however,

rule out the possibility that a private action could be invoked

The Commission believes that, under the analysis set

forth in Piper and Cort, private parties may obtain

judicial relief for violations of Section 206 of the

Investment Advisers Act of 1940, 15 U.S.C. 80b-6,

and that clients of investment advisers are appro-

priate parties to vindicate these rights.‘

A. The Trust And Its Shareholders Are Members Of The

Class For Whose Especial Benefit The Investment

Advisers Act Was Enacted

The literal text of Section 206, 15 U.S.C. 80b-6,

demonstrates that its special beneficiaries are clients

by “shareholder-offerees” (see 480 U.S. at 38-39 & n.25).

Moreover, the Court reaffirmed the basic principle “that,

where congressional purposes are likely to be undermined

absent private enforcement, private remedies may be im-

plied in favor of the particular class intended to be protected

by the statute.” Jd. at 25. See also Regents of the University

of California v. Bakke, No. 76-811 (June 28, 1978), slip op.

13-14 n.28 (Stevens, J., concurring and dissenting).

*A number of cases that the Court will consider this Term

present related questions concerning implied private remedies.

See Chrysler Corp. Vv. Brown, No. 77-922, argued Nov. 8, 1978;

Cannon Vv. University of Chicago, No. 77-926, argued Jan. 9,

1979; Touche Ross & Co. Vv. Redington, No. 78-309, cert.

granted (Nov. 27, 1978); Davis v. Passman, No. 78-5072,

cert. granted (Oct. 80, 1978) ; Southeastern Community Col-

lege v. Davis, No. 78-711, cert. granted (Jan. 8, 1979). The

government’s briefs in Chrysler and Cannon employ the same

method of analysis that is employed in this brief. (The United

States did not file a brief in Passman and is considering

whether to participate in Touche Ross and Southeastern

Community College.)

of investment advisers." The statute unambiguously

prohibits frauds and courses of business that operate

as frauds upon clients. This Court’s decisions also

emphasize that the purpose of Section 206 is to pro-

tect such clients from fraud and breaches of fiduciary

duty. See SEC v. Capital Gains Research Bureau,

Inc., supra, 375 U.S. at 186-195; Santa Fe Industries,

Inc. v. Green, supra, 430 U.S. at 471 n.11.

At the time of the Act’s passage, Congress recog-

nized the importance of investment advisers and the

necessity of protecting their clients from misfeasance.

See S. Rep. No. 1775, 76th Cong., 3d Sess. 21 (1940)

‘In pertinent part, Section 206 provides:

It shall be unlawful for any investment adviser * * *

directly or indirectly—

(1) to employ any device, scheme, or artifice to de-

fraud any client or prospective client;

(2) to engage in any transaction, practice, or course

of business which operates as a fraud or deceit upon any

client or prospective client;

(8) acting as principal for his own account, knowingly

to sell any security to or purchase any security from a

client, or acting as broker for a person other than such

client, knowingly to effect any sale or purchase of any

security for the account of such client, without disclosing

to such client in writing before the completion of such

transaction the capacity in which he is acting and obtain-

ing the consent of the client to such transaction. * * *

(4) to engage in any act, practice, or course of busi-

ness which is fraudulent, deceptive, or manipulative. * * *

Section 206(4) was added to the statute in 1960. 74 Stat. 887.

At that time Congress also extended the provisions of Section

206 to all investment advisers, whether or not such advisers

were required to register under Section 203 of the Act. bid.

Thus, the provisions of Section 206 apply to TAMA whether

or not it is required to register, if it is an investment adviser

(a question which, as noted, was not decided by the court

below).

(stressing “the dangerous potentialities of stock

market tipsters imposing upon unsophisticated in-

vestors”); H.R. Rep. No. 2639, 76th Cong., 3d Sess.

28 (1940) (pointing out the need to protect clients

“from the frauds and misrepresentations of unscrup-

ulous tipsters and touts’); S. Rep. No. 1760, 86th

Cong., 2d Sess. 1 (1960) (the purpose of the statute

is to prevent “malpractices by persons paid for ad-

vising others about securities”). See also SEC, Re-

port on Investment Trusts and Investment Companies,

(Investment Counsel and Investment Advisory Serv-

ices), H.R. Doc. No. 477, 76th Cong., 2d Sess. 27-30

(1939). Thus, just as purchasers and sellers of

securities are the special beneficiaries of Section

10(b), 15 U.S.C. 78j(b), and shareholder-recipients

of proxy solicitations are the special beneficiaries of

Section 14(a) of the Securities Exchange Act of

1934, 15 U.S.C. 78n(a), an adviser’s clients receive

the special protections of Section 206 of the Invest-

ment Advisers Act. See Abrahamson vy. Fleschner,

568 F.2d 862, 873 (2d Cir. 1977), cert. denied, 436

U.S. 918 (1978) ; Wilson v. First Houston Investment

Corp., 566 F.2d 1235, 1240-1241 (5th Cir. 1978),

petition for cert. pending, No. 77-1717.°

* The Investment Advisers Act gives legal protection to the

sensitive fiduciary relationship (SEC v. Capital Gains Re-

search Bureau, Inc., supra, 375 U.S. at 191) that exists be

tween an investment adviser and its clients. The Act “recog-

nizes the personalized character of the services of investment

advisers and especial care has been taken in the drafting of

B. There Is No Indication That Congress Intended To

Foreclose Private Remedies

1, It is inherent in “implied cause of action” cases,

such as the present one, that Congress was silent on

the availability of private relief. The silence usually

carries over to any jurisdictional statute that may

accompany the substantive legislation in question.

Thus jurisdiction over implied private rights of action

often is supplied by 28 U.S.C. 1331, the general federal

question jurisdiction statute. Things have been other-

wise in most securities cases, because many securities

laws contain jurisdictional provisions granting auth-

ority to decide actions at law. Section 214 of the

Investment Advisers Act, 15 U.S.C. 80b-14, the pro-

vision that confers jurisdiction on the district courts

to adjudicate claims of statutory violations and en-

join wrongdoing, differs from comparable provisions

of the other securities laws because it omits reference

to “actions at law.” ’ Judge Gurfein, dissenting in

the bill to respect this relationship.” H.R. Rep. No. 2639,

supra at 28. But Section 206 protects persons whose funds

are managed on a collective basis as well as those persons

who deal with their advisers on an individual basis. See S.

Rep. No. 1775, supra, at 21 (“[T]he solution of the problems

and abuses of investment advisory services—individuals and

companies which either handle pools of liquid funds of the

public or give advice with respect to security transactions—

cannot be effected without Federal legislation’). The Trust

in this case, which respondent seeks to represent derivatively,

is a vehicle for the collective management of its shareholders’

investments, and the protections of the Act extend to the

shareholders themselves as well as the Trust.

7 Section 214 of the Investment Advisers Act, 15 U.S.C.

80b-14, provides in relevant part:

The district courts of the United States * * * shall have

jurisdiction of violations of this subchapter or the rules,

Abrahamson vy. Fleschner, supra, 568 F.2d at 881,

cited this as evidence of congressional intent to fore-

close damages actions under the Investment Advisers

Act.’ But the legislative history offers no support for

the view that Congress omitted the “actions at law”

phraseology in order to preclude private damages

suits. If any inference can be drawn from the legis-

lative history, it is that Congress did not focus on the

issue of private remedies. See Abrahamson v. Flesch-

ner, supra, 568 F.2d at 875; Wilson v. First Houston

Investment Corp., supra, 566 F.2d at 1241-1242. See

also Cort v. Ash, supra, 422 U.S. at 82-84; Comment,

Private Rights of Action under Amtrak and Ash, 123

U. Pa. L. Rev. 1892, 1412 (1975).

Congress considered the Investment Advisers Act

and the Investment Company Act of 1940 in tandem.

The Investment Company Act was Title I, and the

Investment Advisers Act Title II, of each of the bills

regulations, or orders thereunder, and concurrently with

State and Territorial courts, of all suits in equity to en-

join any violation of this subchapter or the rules, regula-

tions, or orders thereunder.

Compare Section 22(a) of the Securities Act of 1933, 15

U.S.C. 77v (a) ; Section 27 of the Securities Exchange Act of

1934, 15 U.S.C. 78aa; Section 25 of the Public Utility Holding

Company Act of 1935, 15 U.S.C. 79y; Section 322(b) of the

Trust Indenture Act of 1939, 15 U.S.C. 77vvv(b); and Sec-

tion 44 of the Investment Company Act of 1940, 15 U.S.C.

80a-48.

* Judge Wallace, dissenting in the instant case, adopted

Judge Gurfein’s views (A. 32).

introduced in Congress.’ The jurisdictional provision

in Title II of the original bill (which ultimately be-

came Section 214 of the Investment Advisers Act),

incorporated by reference the jurisdictional provision

contained in Title I. See S. 3580, 76th Cong., 3d Sess.

Section 203 (1940); H.R. 8985, 76th Cong., 3d Sess.

Section 203 (1940). The jurisdictional provision in

Title I, in turn, incorporated by reference Section 25

of the Public Utility Holding Company Act of 1935,

15 U.S.C. 79y, which included the “actions at law”

phraseology. See S. 3580, 76th Cong., 3d Sess. Sec-

tion 40(a) (1940); H.R. 8935, 76th Cong., 3d Sess.

Section 40(a) (1940).

After the hearings on the bill in the Senate, but

before the hearings in the House, representatives of

the investment advisory industry and the staff of the

Commission met to discuss the bill. See S. Rep. No.

1775, supra, at 1. Judge Gurfein’s dissenting opinion

in Abrahamson points to these meetings and the re-

sulting “compromise” that arose as an indication that

the Act should be read more narrowly than other

federal securities laws. Abrahamson v. Fleschner,

supra, 568 F.2d at 880. But the legislative history

shows that no compromise affected the prohibition

against fraud. As this Court has pointed out, the

broad antifraud provision “remained in the bill from

beginning to end.” SEC v. Capital Gains Research

Bureau, Inc., supra, 375 U.S. at 191.

® Although several ve:sions of the Investment Advisers Act

were proposed, the la.guage in the House and Senate bills

was identical at each stage.

Consideration of the relationship among Congress,

the Commission and industry representatives in 1940

is useful in determining the nature of the compromises

that were struck. In addition to questioning the

necessity for federal regulation (Hearings on S. 3580

Before a Subcomm. of the Senate Comm. on Bank-

ing and Currency, 76th Cong., 3d Sess. 745-746,

749-751 (1940) (“Senate Hearings’’) ), industry rep-

resentatives objected to provisions in the bill that

required federai examination of investment counsel

(id. at 746). Industry representatives also asserted

that the investigatory powers granted to the Com-

mission under the bill, if attended by publicity, could

lead to a loss of confidence by clients (id. at 752).

Senators Hughes and Wagner were quick to remind

industry witnesses that their desire to avoid regula-

tion must be weighed against Congress’ duty to pro-

tect the public (td. at 753). Significantly, several

industry representatives recognized that if additional

regulation was called for, federal regulation was pre-

ferable to state regulation. See Hearings on H.R.

10065 Before a Subcomm. of the House Comm. on

Interstate and Foreign Commerce, 76th Cong., 3d

Sess. 88, 92 (1940) (“House Hearings’). Moreover,

the President of the Investment Counsel Association

assured members of the Senate Committee that the

Association “strongly favor[ed] whatever method may

be relied upon” to keep the profession “free from all

forms of abuse.” See Senate Hearings, supra, at 723;

see also id. at 752. No member of the industry of-

—_—.— -

fered comments on the subject of remedies for de-

frauded clients.

The compromise version of the bill that received the

endorsement of the industry took into account certain

of its criticisms. The bill made no provision for ex-

amination of advisers prior to registration, reduced

the amount of information to be disclosed in registra-

tion applications, and provided that investigations

would be confidential. Industry representatives ap-

proved the bill with these changes. See House Hear-

ings, supra, at 86-93.

The language that was enacted as the jurisdictional

section of the Act (Section 214) first appeared in a

committee print after the Senate Hearings. See

Confidential Committee Print, S. 3580, 76th Cong.,

3d Sess. Section 213 (1940). That version of the

bill, and the version finally enacted into law, S. 4108,

76th Cong., 3d Sess. Section 214 (1940), both deleted

the jurisdictional incorporations by reference, which

had been used in earlier drafts, because the Invest-

ment Company Act and the Investment Advisers Act

were designed to be independent and self contained.

This change resulted at least in part because the in-

vestment adviser industry had indicated a preference

for separation and restatement of each previously-

overlapping provision of the two Acts. See House

Hearings, supra, at 92, 137-138; Senate Hearings,

supra, at 743.

Nothing in the legislative history explains why the

final version of the jurisdictional provision in the

Investment Advisers Act omitted reference to “actions

at law,” while the jurisdictional provision in the In-

vestment Company Act contained that reference. See

S. 4108, 76th Cong., 3d Sess. Sections 44 and 214

(1940). Differences in the substantive provisions of

the Acts may, however, suggest an answer. Section

30(f) of the Investment Company Act, 15 U.S.C.

80a-29(f), expressly created a private right of action

for insider trading similar to Section 16(b) of the

Securities Exchange Act of 1934, 15 U.S.C. 78p(b).

See S. 4108, 76th Cong., 38d Sess. Section 30(f)

(1940). The Investment Advisers Act, in contrast,

contained no provision expressly creating a private

remedy, and this may account for the difference in

the jurisdictional provisions. But the difference does

not support an inference that Congress meant to for-

bid private actions to enforce the substantive rules of

the Investment Advisers Act.*° It shows, at most, that

Congress did not affirmatively provide for such ac-

tions. And that fact is quite neutral.

1° Although there was no contemporaneous explanation of

the difference, those provisions were discussed in the House

and Senate Committee Reports. Section 214, together with

Sections 208-221 of the Investment Advisers Act, 15 U.S.C.

80b-8 to 80b-21 (‘the administrative and enforcement ma-

chinery” of the statute), were described as being “generally

comparable” to the corresponding provisions in the Invest-

ment Company Act. See S. Rep. No. 1775, supra, at 23; H.R.

Rep. No. 2639, supra, at 30. Congress’ view that the juris-

dictional provision in the Investment Advisers Act is gen-

erally comparable to that in the Investment Company Act

discredits the notion that Congress intended to permit private

relief under one statute and not the other.

es eee ee .

2. Judge Gurfein’s dissenting opinion in Abraham-

son also relied on the doctrine “that when a statute

limits a thing to be done in a particular mode, it

includes the negative of any other mode” (568 F.2d

at 882), pointing out that Section 214 of the Invest-

ment Advisers Act authorizes only “equitable relief.”

From this he reasoned that although a private remedy

for equitable relief may be acknowledged, a private

damages remedy is foreclosed (id. at 882 n.8). This

argument is wrong for two reasons: first, it would

obliterate all implied private rights of action, and

second, it erroneously assumes that Section 214 would

be the source of the private remedy.

Unless the statute is silent.on the question, there is

no need to consider whether a private remedy should

be implied to enforce a substantive right. But such

silence almost always takes place in the context of the

provision of some remedies. For example, the Court

has concluded that there is a private right of action

to enforce Section 10(b) of the Securities Exchange

Act of 1934 even though nothing in Section 10(b)

expressly creates such a right, and even though other

portions of the Act create express private rights

of action to enforce other substantive rules.“ See

Blue Chip Stamps v. Manor Drug Stores, supra, 421

U.S. at 729-730. Judge Gurfein’s rigorous application

of the “expressio unius exclusio alterius’ maxim

would require the overruling of almost all of the

™ See Sections 9(e), 16(b), and 18 of the Securities Ex-

change Act of 1934, 15 U.S.C. 78i(e), 78p(b), 78r.

cases in which this Court recognized implied private

righis of action. But chere is no need to do so, because

the maxim never has been carried to the full extent

of its logic. The Court always has examined the

legislative history of the substantive statute to de-

termine whether Congress intended, in providing one

remedy, to foreclose others. When the examination

discloses such an intent, it is appropriate to apply

only the remedies specifically enumerated.” See, e.g.,

Securities Investor Protection Corp. v. Barbour, 421

U.S. 412, 420-421 (1975). But when the legislative

debates or the structure of the statute do not disclose

such an intent, it is appropriate to apply the prevail-

ing rule that private remedies are available to enforce

substantive rights given to private parties. See, e.9.,

Allen v. State Board of Elections, 393 U.S. 544, 556-

557 (1969). The “expressio unius exclusio alterius”

approach adds little of value: the Court must divine

the legislative plan statute-by-statute. Cort v. Ash,

supra, 422 U.S. at 83 n.14.

At all events, Judge Gurfein was wrong in apply-

ing an “expressio unius exclusio alterius” approach

to Section 214, because that Section does not create

remedies or indicate what the appropriate remedies

would be. It is a jurisdictional provision, and it sup-

plements the general jurisdictional provision of 28

2 See also pages 32-36 and 53-55 of the government’s brief

in Chrysler Corp. Vv. Brown, No. 77-922, argued Nov. 8, 1978,

which applies this principle in arguing that neither 18 U.S.C.

1905 nor the Freedom of Information Act, 5 U.S.C. 552, sup-

ports a private right of action to enjoin disclosure of informa-

tion by federal agencies.

U.S.C. 1331 by removing the amount-in-controversy

requirement of the latter statute. Section 214 ex-

presses, at best, the view of Congress that injunctive.

actions (but not damages actions) under the Invest-

ment Advisers Act should be entertained without

regard to the amount in controversy.”

The substantive right in question comes from Sec-

tion 206 of the Investment Advisers Act, not from

Section 214. Section 206 establishes a duty but does

not explicitly provide for any remedy, public or pri-

vate, in equity or at law. It simply creates the right

to be enforced. The statute creating the right—which

has always been the critical provision in considering

whether courts should recognize a private claim for

relief “—thus does not support Judge Gurfein’s

position.

Tt is clear that 28 U.S.C. 1331 provides jurisdiction to

entertain implied private rights of action. See Bell v. Hood,

827 U.S. 678, 682-684 (1946) ; Securities Investor Protection

Corp. Vv. Barbour, supra, 421 U.S. at 424; Bivens v. Six Un-

known Named Agents, supra, 403 U.S. at 405 (Harlan, J.,

concurring). Cf. Texas & Pacific Ry. v. Rigsby, supra, 241

U.S. at 39-40. The courts of appeals that have recognized

private rights of action under the Investment Advisers Act

have relied on Section 1331 as the ground of jurisdiction. See

A. 32 n.2; Abra’ xmson V. Fleschner, supra, 568 F.2d at 875

n.22; Wilson v. First Houston Investment Corp., supra, 566

F.2d at 1237 n.2.

4 See, e.g., J. I. Case Co. Vv. Borak, supra, 377 U.S. at 431-

433 (looking principally to the content of the substantive right

even though also relying on 15 U.S.C. 78aa, which gives

courts jurisdiction of controversies “at law” in certain securi-

ties matters) ; Securities Investor Protection Corp. vy. Bar-

bour, supra, 421 US. at 424.

8. Although Section 214 of the Act thus does not

support an inference that Congress intended either to

authorize or to forbid private damages remedies under

the Investment Advisers Act, Section 215(b) of the

Act, 15 U.S.C. 80b-15(b), which provides for avoid-

ance of illegal contracts, “strongly suggests” that a

private right of action is consistent with the intentions

of Congress.** Abrahamson vy. Fleschner, supra, 568

F.2d at 874; Sullivan v. Chase Investment Services of

Boston, Inc., supra, 484 F. Supp. at 182. Indeed, Pro-

fessor Loss has remarked that private remedies are

“perhaps more express than implied” when the stat-

ute contains such a voidability rule. III L. Loss, Secu-

rities Regulation 1758-1759 (2d ed. 1961). Accord,

Kardon v. National Gypsum Co., supra, 69 F. Supp.

at 514: “a statutory enactment that a contract of a

certain kind shall be void almost necessarily implies

a remedy in respect of it.”” See also Blue Chip Stamps

'® Section 215(b) provides in pertinent part:

Every contract made in violation of any provision of this

subchapter and every contract heretofore or hereafter

made, the performance of which involves the violation of,

or the continuance of any relationship or practice in

violation of any provision of this subchapter, or any rule,

regulation, or order thereunder, shall be void * * * as

regards the rights of any person who, in violation of

any such provision, rule, regulation, or order, shall have

made or engaged in the performance of any such con-

tract °° °”

Under this provision, an adviser’s sale of securities to a

client would be voidable if the sale violated the antifraud pro-

vision of the Investment Advisers Act. An advisory contract

illegal under the Act also would be subject to avoidance.

ee ee ee

v. Manor Drug Stores, supra, 421 U.S. at 735. This

means, at a minimum, that equitable proceedings for

rescission, restitution, and injunctive relief are avail-

able.” Equitable remedies of this nature would pro-

vide the relief sought by respondent. This complaint

seeks an injunction, rescission, restitution, and an

accounting—all traditional forms of equitable relief."

Moreover, proceedings for injunctions, rescission and

restitution have always encompassed monetary relief

where necessary to do equity. See Porter v. Warner

Holding Co., 328 U.S. 395, 399 (1946); Wyandotte

Transportation Co. v. United States, 389 U.S. 191,

204 (1967). See also 6A A. Corbin, Contracts 833,

834 (1962); 5 id. at 578, 574 (1964); D. Dobbs,

Remedies 618-619, 631 (19738).*

'® Judge Gurfein’s dissenting opinion in Abrahamson Vv.

Fleschner, supra, 568 F.2d at 882 n.8, acknowledges that

“implication of a private right of action for rescission and

restitution under § 215(b) would be well within the jurisdic-

tional grant of § 214, and consistent with the notion that it is

only actions at law which are inconsistent with the statutory

scheme” (emphasis in original).

1* Equitable remedies sought by private parties under the

securities laws are, of course, subject to the traditional pre-

requisites. Rondeau v. Mosinee Paper Corp., 422 U.S. 49,

59-63 (1975).

'® A suit by a client seeking damages from an investment

adviser has certain similarities to a surcharge proceeding

brought by a beneficiary against a trustee. The surcharge

proceeding is wholly equitable in nature, but monetary relief

is routinely granted where a breach of fiduciary duty has

caused injury to the trust corpus. See, e.g., III Scott on Trusts

§§ 199, 205-213 (3d ed. 1967) ; see also McClintock on Equity

§ 85 (2d ed. 1948). The application of such equitable prin-

4. Petitioners argue that Congress’ failure ex-

pressly to create a private remedy in 1970 when

amendments to the Investment Advisers Act were

considered supports the inference that Congress in-

tended to forbid all private remedies (Pet. Br. 17-20).

That contention is incorrect.

In 1970 Congress amended both the Investment

Advisers Act and the Investment Company Act. It

expressly authorized private actions against invest-

ment advisers under Section 36(b) of the Investment

Company Act, 15 U.S.C. 80a-35(b). Congress was

well aware of the possibility that this might be cited

—as petitioners have cited it—for the proposition that

other rights are foreclosed. The legislative history

refutes that proposition, however, because both com-

mittees stated that the creation of an express right of

action under Section 36(b) should not be interpreted

to affect other implied remedies. See S. Rep. No. 91-

184, ist Cong., lst Sess. 16 (1969); H.R. Rep. No.

91-1382, 91st Cong., 2d Sess. 38 (1970).

In 1975 the Commission submitted a proposal to

Congress that would amend Section 214 to extend

jurisdiction, without regard to the amount in con-

troversy, to “actions at law” under the Act. See S.

2849, 94th Cong., 2d Sess. Section 6 (1976). That

proposal also was intended to confirm the existence

ciples is, of course, appropriate in a federal action. Hecht

Co. v. Bowles, 321 U.S. 321, 329-330 (1944). Whether or not

an action can be brought in state court against an adviser is

a separate question, as is its efficacy. See the discussion at

pages 35-41, infra.

ee ee

~~ 27

of private rights of action to enforce the Act’s sub-

stantive ruies. See Hearings on S. 2849 Before the

Suwomm. on Securities of the Senate Comm. on

Banking, Housing and Urban Affairs, 94th Cong.,

2d Sess. 17 (1976); Hearings on H.R. 12981 and

H.R. 18737 Before the Subcomm. on Consumer Pro-

tection and Finance of the House Comm. on Interstate

and Foreign Commerce, 94th Cong., 2d Sess. 36-37

(1976). The Senate Committee reported favorably on

the provision as proposed by the Commission. The

Committee agreed with the lower court decisions hold-

ing that private remedies may be implied under Sec-

tion 206, pointing out that it would be “anomalous” to

deny private remedies to advisory clients when inves-

tors may invoke implied remedies under other securi-

ties statutes. S. Rep. No. 94-910, 94th Cong., 2d Sess.

8-9 (1976). Although the bill did not come to a vote

in either house, there is no indication that Congress

would have rejected the Commission’s proposal.”

Petitioners also argue tha. Congress’ efforts in 1960 to

strengthen the Investment Advisers Act in several respects,

including the enforcement powers of the Commission, indicate

a desire to preclude private remedies (Pet. Br. 17-18). But

the legislative history does not mention that issue, and it is

odd to contend that an amendment to strengthen enforcement

silently disapproved private actions. Three years prior to

the 1960 amendments, the Commission had taken the posi-

tion that the existing language of Sections 206 and 214 was

sufficient to support a private damages action in favor of a

defrauded client. Brief for the SEC as amicus curiae, Hull

v. Newman, Kennedy & Co., Civ. Action No. 118-283 (S.D.

N.Y., filed Sept. 10, 1957). Jt was not until several years

later, after some uncertainty arose in the district courts, that

In sum, the recent activities of Congress do not

suggest an intention to foreclose private remedies.

Those activities are entirely consistent with the view

that a private remedy may be implied. Petitioners’

“excursion into extrapolation of legislative intent [is]

entirely unilluminating.” Cort v. Ash, supra, 422

U.S. at 83 n.14.

C. Private Remedies Are Consistent With The Underly-

ing Purpose Of The Statute And Necessary to Achieve

The Goals of Congress

1. The principal purpose of the Investment Ad-

visers Act was to eliminate abuses by investment

advisers that caused injury to both their clients and

the national economy. SEC v. Capital Gains Research

Bureau, Inc., supra, 375 U.S. at 186-187. The legisla-

tive history repeatedly emphasizes protection of clients

from unscrupulous and fraudulent practices. See,

e.g., H.R. Rep. No. 2639, swpra, at 28; S. Rep. No.

i775, supra, at 21-22; 86 Cong. Rec. 2844-2845

(1940) (remarks of Sen. Wagner). Although Con-

gress had enacted many securities antifraud provi-

sions prior to the Investment Advisers Act, it con-

cluded in 1940 that more effective remedies were

needed. Thus, in describing existing securities stat-

utes, Rep. Wolverton pointed out that:

The Securities Act of 1933 and the Securities

Exchange Act of 1934 have not been effectual in

the Commission sought clarification of the language of Section

214. Hearings on S. 2849 Before the Subcomm. on Securities

of the Senate Comm. on Banking, Housing and Urban Affairs,

94th Cong., 2d Sess. 17 (1976).

a ee

eC ee

preventing the type of abuses that have grown

up in the investment field. These acts merely

provide for publicity. This, however, has not pro-

vided adequate security to the investing public.

86 Cong. Rec. 9816 (1940). Congress’ solution to the

provlem of unscrupulous investment advisers was the

creation of federal fiduciary standards. See Santa Fe

Industries, Inc. v. Green, supra, 430 U.S. at 471 n.11.

Private remedies available to defrauded clients of

investment advisers would do much to achieve the

purposes of the statute. The availability of damages

for violations of the provisions of Section 206 would

encourage ethical behavior by advisers. Although the

“deterrent value” of private litigation can never be

encertaiit’ With precision” (Piper v. Chris-Craft In-

dustries, Inc., supra, 430 U.S. at 40), the prospect of

effective private redress for fraudulent conduct cer-

tainly would have some deterrent effect. By award-

ing damages to remedy injuries suffered by the special

beneficiaries of the Act, moreover, the federal courts

would create an enforcement mechanism “closely

tailored to the precise congressional goal.” Jbid. Pro-

tection of the economic interests of clients is the very

point of the prohibition against adviser fraud.”

The availability of private remedies would not con-

flict with public enforcement or undermine other

20 See the remarks of Rep. Wolverton, 86 Cong. Rec. 9815

(1940), stressing the need “to save the investor from the

losses that were incident to doing business with those who

were not actuated by honest motives.’ See also Senate Hear-

ings, supra, at 320.

statutory goals. This case is therefore quite different

from National Railroad Passenger Corp. v. National

Association of Railrocd Passengers, 414 U.S. 453,

458-463 (1974) (“Amtrak”). The legislative his-

tory of the statute involved there showed that Con-

gress intended to foreclose a private remedy; more-

over, private suits would have delayed railroad

discontinuances and thus frustrated achievement of

a statutory goal. Simzlarly, in Securities Investor

Protection Corp. v. Barbour, supra, 421 U.S. at 420-

425, the Court concluded “that the overall structure

and purpose of the SIPC scheme are incompatible

with such an implied right.” Jd. at 421. Barbour did

not, however, question the appropriateness of private

remedies under the federal securities laws, pointing

out that private remedies had been implied “[i]n light

of the ‘broad remedial purposes’ of the Act and the

SEC’s representation that private enforcement was

necessary to effectuate those purposes * * *.” Id.

at 423.

Petitioners rely heavily on Amtrak and Barbour, but

they do not come to grips with the essential distinc-

tion between private actions (such as those in Am-

trak and Barbour) that might frustrate the legisla-

. tive plan and those (such as in this case) that might

help to carry out the plan. More than that, peti-

tioners slight the fact that the plaintiffs in both

Amtrak and Barbour sought relief that was identical

to relief that public officials were authorized to seek,

but which, for reasons of public policy, they had fore-

sworn.” In each case, the private plaintiffs were seek-

ing the aid of the judiciary to achieve an objective

that was at cross-purposes with decisions made by the

responsible administrative agency.” But the com-

21 The fact that administrative agencies have not invoked

available remedies is not, however, a sufficient reason to for-

bid private actions. As the government’s brief in Cannon V.

University of Chicago, supra, emyvhasized, it is important to

consider whether the administrative remedy would produce

the relief available in a suit. In Cannon, for example, an

administrative process might lead to a suspension of funding

for private institutions that discriminated on account of sex,

but it might not effectively produce relief for individual vic-

tims of discrimination. A private remedy therefore could

supplement the administrative process and would not under-

mine it. The same is true here.

22 In Amtrak, for example, Congress gave to the Attorney

General alone the authority to bring suit, principally in order

to eliminate delays that had grown up under earlier legisla-

tion. The Attorney General’s decision not to bring a suit

would represent his judgment that discontinuation of service

was appropriate, and the decision would clear the way for

discontinuation. The allowance of private litigation would

recreate the delay sought to be eliminated and, in the process,

call into question the Attorney General’s decision that dis-

continuation of service was not contrary to the public inter-

est (414 U.S. at 462-464). Cf. Morris v. Gressette, 432 U.S.

491, 504-505 (1977). In Barbour the plaintiff had sought to

require SIPC to initiate a proceeding for the liquidation of 4

broker-dealer. The statute provided that the Commission

could seck to compel such action by SIPC, if SIPC refused to

do so itself. The Court pointed out that Congress had named

SIPC as the appropriate party to begin liquidation proceed-

ings for insolvent broker-dealers because that was an extra-

ordinary remedy and because its intervention might precipi-

tate a dealer’s collapse. Congress had chosen the Commission

to supervise SIPC’s obligation. To allow a parallel action by a

private party to compel SIPC to intervene might unnecessarily

plaint in this case does not seek relief that the SEC

would prefer be withheld. Indeed, the complaint

seeks relief—private restitution of sums alleged to be

wrongfully taken—that would not ordinarily be avail-

able in a suit brought by the Commission. The private

action here therefore is a prototypical case of the suit

that supplements the Commission’s actions by adding

deterrence of future wrongs and restitution for pri-

vate harms to the prospective remedies available at

the Commission’s request. See J. I. Case Co. v. Borak,

supra, 377 U.S. at 432.

Such supplementation is essential. The growth of

the investment advisory industry since passage of the

Advisers Act has been substantial. In the fiscal year

that ended June 30, 1941, there were 753 advisers

registered under the new Act. SEC, Seventh Annual

Report 31 (1942). In the fiscal year that ended Sep-

tember 30, 1977, 4,823 persons were registered with

the Commission as investment advisers. SEC, 43rd

Annual Report 234 (1979). The Commission’s rec-

ords show that the number of registrants increased to

5,385 as of December 31, 1978. As of June 30, 1969,

registered advisers had more than $130 billion of as-

sets under advisement. SEC, Institutional Investor

Study Report, H.R. Doc. No. 92-64, 92d Cong., 1st

Sess. 1389 (1971). In its most recent budget submis-

sion to the Congress, for the fiscal year ended October

cause a dealer to collapse at a time when SIPC or the Commis-

sion still believed that the dealer could be saved. Securities

Investor Protection Corp. Vv. Barbour, supra, 421 U.S. at

420-423.

sn Ai eens wltlaser

30, 1980, the Commission estimated that the assets

currently under advisement by registered advisers to-

talled $200 billion. The Commission’s examination and

enforcement capabilities have not grown proportion-

ately. In 1977 the Commission was able to conduct only

459 inspections of investment advisors. SEC, 43rd An-

nual Report 234 (1979). The Commission 'elieves

that here, as in J. I. Case Co. v. Borak, supra, 377

U.S. at 482, the magnitude of the enforcement prob-

lem requires private litigation by persons in a posi-

tion to learn the facts about particular advisers and

bring them to the court’s attention. The effectiveness

of the Act “would be ‘severely hampered’ without the

existence of a private remedy to supplement adminis-

trative procedures.” Regents of the University of

California v. Bakke, supra, slip op. 14 n.28 (Stevens,

J., concurring and dissenting).

2. Judge Gurfein’s dissenting opinion in Abraham-

son v. Fleschner, supra, 568 F.2d at 883, maintained

that private enforcement is inconsistent with the

statutory scheme because the Investment Advisers

Act was desizned as ‘‘a compulsory census of invest-

ment advisers, an not as a pervasive regulatory

scheme.” We av .cion whether the “pervasiveness”

of the regulatory scheme has much to do with the

desirability of private enforcement. The essential

question is whether there is a substantive federal

rule and, if so, how that rule should be enforced. This

Court therefore has acknowledged the propriety of

implied rights of action “where congressional pur-

poses are likely to be undermined absent private en-

forcement * * *”;* or where there exist “standards

of conduct that a private action could help to enforce

* * *. 2 or where such actions will help to prevent

“harm * * * of the type that the statute was intended

to forestall * * *,” * as well as where there is “a per-

vasive legislative scheme governing the relationship

between the plaintiff class and the defendant class in

a particular regard.” ** The issue in every case is

whether the remedy serves the purposes inherent in

the statutory scheme. To determine that issue, one

must examine the legislature’s objectives. As we

have discussed, the Investment Advisers Act was in-

tended by Congress to protect clients from the fraud-

ulent devices o! advisers; the implication of a private

remedy is wholly consistent with that scheme and

acts aS a necessary supplement to the Commission’s

enforcement of the statute. J. J. Case Co. v. Borak,

supra, 377 U.S. at 432.

At all events, Judge Gurfein’s view that the In-

vestment Advisers Act merely provides for a “com-

pulsory census” fails to take into full account the

substantive provisions of the statute. The Act re-

quires most persons who render investment advice for

23 Piper Vv. Chris Craft Industries, Inc., supra, 430 U.S.

at 25.

*4 Securities Investor Protection Corp. v. Barbour, supra,

421 U.S. at 424.

*s Wyandotte Transportation Co. v. United States, supra,

389 U.S. at 202.

26 Cort v. Ash, supra, 422 U.S. at 82.

te ewes

cedihasaee San te +

compensation to register with the Commission and to

disclose information concerning their methods of

operation (Section 203, 15 U.S.C. 80b-3). Registered

advisers must submit to inspections and maintain

books and records concerning their operations (Sec-

tion 204, 15 U.S.C. 80b-4). The contracts of ad-

visers are subject to regulation (Section 205, 15

U.S.C. 80b-5), and certain persons are excluded

from becoming advisers (Section 203(e), 15 U.S.C.

80b-3(e)). The Act contains a sweeping anti-fraud

provision (Section 206, U.S.C. 80b-6) and pro-

vides for administrative injunctions and criminal

penalties (Sections 209(e), 217, 15 U.S.C. 80b-9(e),

80b-17).*° This scheme may be less “pervasive” than

the one applicable to registered broker-dealers (see

Securities and Exchange Act of 1934, Section 15, 15

U.S.C. 780), but there can be no doubt that Congress

has established a detailed regulatory scheme for the

protection of advisory clients, and that the statute is

far more than a mere “census taking” mechanism.

D. Regulation Of Investment Advisers Has Not Been A

Traditional Concern Of The States, And Defrauded

Clients Should Not Be Remitted to State Law

Remedies

The final factor to be considered in determining

whether the structure and purpose of a statute sup-

27 The Commission also has broad rule-making authority

under the Act. See 15 U.S.C. 80b-3(c) (1), 80b-4, 80b-5, 80b-

6(4), 80b-6a, 80b-10(a), and 80b-11. The Commission has

adopted rules regulating, inter alia, the records to be kept by

advisers, the use of performance fee centracts, the contents

of advertising, and the safekeeping of clients’ funds and

securities. See 17 C.F.R. 275.204-2, 275.204-3, 275.205-1,

275.205-2, 275.206(4)-1 and 275-206 (4) -2.

port private remedies is whether the subject is “one

traditionally relegated to state law, in an area ba-

sically the concern of the States, so that it would be

inappropriate to infer a cause of action based solely

on federal law.” Cort v. Ash, supra, 422 U.S. at 78.

See also Piper v. Chris-Craft Industries, Inc., supra,

430 U.S. at 40; Santa Fe Industries, Inc. v. Green,

supra, 430 U.S. at 478-479.

It is beyond question that Congress found state

supervision inadequate and intended to create federal

standards to govern the conduct of investment ad-

visers.* When the statute was enacted, there was

no scheme of regulation in 42 of the 48 states. See

Senate Hearings, supra, at 96-1004. Representatives

of the investment advisory industry themselves ac-

knowledged the absence of adequate state regulation

and called for a uniform system of federal regu-

lation. See House Hearings, supra, at 88, 92. The

Act thus created, as this Court has recognized, a

new federal standard of fiduciary duty. Santa Fe

Industries, Inc. v. Green, supra, 430 U.S. at 471 n.11.

Although state regulation of investment advisers

has become more common since passage of the Act,

“Ts]tate controls with respect to conduct in the in-

vestment advisory field are of extremely limited scope

28 See S. Rep. No. 1775, supra, at 21: “[P]rotection of inves-

tors requires the regulation of investment advisers on a

national scale. * * * [T]he problems and abuses of invest-

ment advisory services * * * cannot be effected without Fed-

eral legislation. * * * Virtually no limitations or restrictions

exist with respect to the honesty and integrity of individuals

who may solicit funds to be controlled, managed, and super-

vised.”

at el eth te oe

eet Oe Le ee ee ane) es

and significance * * *.” See SEC, Report of the

Special Study of Securities Markets, H.R. Doc. No.

95, Pt. 1, 88th Cong., 1st Sess. 374 (1963). The most

recent survey conducted by the Commission indicates

that 17 jurisdictions still have no registration require-

ments for advisers, and 19 jurisdictions have no ex-

amination, qualification, capital, or bonding require-

ments. See Hearings on S. 2849 Before the Subcomm.

on Securities of the Senate Comm, on Banking, Hous-

ing and Urban Affairs, 94th Cong., 2d Sess. 19-23

(1976) ; Ahart, Suggested Amendments to the Invest-

ment Advisers Act, 6 Sec. Reg. L.J. 226, 229-234

(1978). Moreover, most state statutes were enacted

after and patterned on the federal statute. See Note,

Private Causes of Action Under Section 206 of the

Investment Advisers Act, 74 Mich. L. Rev. 308, 324

& n.103 (1975). The federal government remains the

primary regulator of investment advisers, and en-

forcement of federal standards will not supersede an

established body of state law.

Petitioners nonetheless contend that claims of the

kind presented in this case are traditionally relegated

to state law (Pet. Br. 25-27). They rely on the ability

of a trust’s beneficiaries to sue trustees for breach of

fiduciary duty. Petitioners argue that this branch of

“the common law offers a formidable arsenal of pre-

cedents, presumptions and remedies” (Pet. Br. 28).

But that merely states the obvious. This Court has

recognized repeatedly that the antifraud provisions of

the federal securities laws regulate conduct previously

regulated by the common law. See SEC v. Capital

Gains Research Bureau, Inc., supra, 375 U.S. at 195

(“Congress codified the common law ‘remedially’ ”

under the Investr’nt Advisers Act); see also Blue

Chip Stamps v. Manor Drug Stores, supra, 421 U.S.

at 744. As one commentator has noted, the federal

antifraud provisions derive from the common law

and are superimposed on it. III Loss, Securities

Regulation, supra, at 1480, 14385. But Congress

enacted federal statutes precisely because common

law remedies had proved to be inadequate, and the

existence of such state remedies therefore is not im-

portant here. See J. J. Case Co. v. Borak, supra, 377

U.S. at 434-435; Superintendent of Insurance v.

Bankers Life & Casualty Co., supra, 404 U.S. at 12

(“there is redress under § 10(b) whatever might be

available as a remedy under state law’’).*’ See also

SEC v. National Securities, Inc., 398 U.S. 453, 461-

463 (1969); SEC v. United Benefit Life Insurance

Co., 387 U.S. 202, 210-212 (1967); SEC v. Variable

Annuity Life Ins. Co., 359 U.S. 65, 69 (1959).

At all events, the common law is not as helpful to

clients of investment advisers as petitioners imply.

Most of the state cases cited by petitioners involve the

construction of testamentary trusts, the beneficiaries

*°In many cases now brought under Section 10(b) the

aggrieved purchaser or seller of securities (alleging both

scienter and deception) could have brought an action under

common law principles of deceit. But the availability of state

law tort remedies has not precluded implication of private

remedies under Section 10(b).

of which are usually limited in number and familiar

to the testator. See, e.g., In re Estate of McLaughlin,

43 Cal. 2d 462, 274 P.2d 868 (1954); In re Ridings’

Estate, 297 N.Y. 417, 79 N.E.2d 735 (1948); In re

Estate of Van Deusen, 37 App. Div. 2d 131, 322

N.Y.S. 2d 951 (1971). Although many investment

advisers handle substantial amounts of their clients’

funds, the principles developed in the cases cited by

petitioners have no direct relevance in actions brought

against those investment advisers who sell advice or

financial analysis and do not manage their clients’

portfolios. Moreover, application of state law stand-

ards to investment advisers may result in conflicting

interpretations and divergent standards of duty.”

quate to protect the interests of participants in large invest-

ment trusts. See, e.g., Hazzard v. Chase National Bank of City

of New York, 159 Misc. 57, 287 N.Y.S. 541 (Sup. Ct. 1936),

aff’d, 282 N.Y. 652, 26 N.E.2d 801 (1940) (“I am reluctantly

constrained to conclude that the defendant has successfully

exempted itself from liability in this sad picture of high

finance. For the inexcusable terms of the indenture, the

trustee cannot be held accountable. It performed in full the

negligible duty which was imposed upon it * * *. It did

nothing more, but, having done that, it is absolved under the

law’) (287 N.Y.S. at 572). The inadequacy of state law

principles of fiduciary duty was the very reason for enacting

the Trust Indenture Act, 15 U.S.C. 77aaa et seq., the Invest-

ment Company Act, 15 U.S.C. 80a-1 et seq., and the Invest-

ment Advisers Act, 15 U.S.C. 80b-1 et seq.

Compare Barnes v. Peat, Marwick, Mitchell & Co., 69

Misc. 2d 1068, 332 N.Y.S. 2d 281 (Sup. Ct. 1972), modified on

other grounds, 42 App. Div. 2d 15, 344 N.Y.S. 2d 645 (1978)

In these circumstances, this Court’s observations in

Borak are most pertinent: “[I]f federal jurisdiction

were limited * * * victims [of fraud] would be

obliged to go into state courts for remedial relief.

And if the law of the State happened to attach no

responsibility to the use of [the fraudulent device],

the whole purpose of the section might be frustrated”

(3877 U.S. at 434-435).

In light of Congress’ decision to create federal

fiduciary standards, it would be anomalous for federal

courts to relegate defrauded clients to state law

remedies. See Wilson v. First Houston Investment

(right of action implied for violation of “blue sky” antifraud

provision in favor of broker’s client) with Herdegen v. Paine,

Webber, Jackson & Curtis, 31 Misc. 2d 104, 220 N.Y.S. 2d

459 (Sup. Ct. 1961) (state court refuses to recognize a private

right of action in favor of a customer who received fraudulent

advice under either common law or state “blue sky” antifraud

provision) ; see also Jones Memorial Trust v. Tsai Investment

Services, Inc., 367 F. Supp. 491, 498 (S.D. N.Y. 1973) (no

right of action under state law where registered investment

adviser is not the stock broker in a fraudulent transaction) ;

Twomey Vv. Mitchum, Jones & Templeton, Inc., 262 Cal. App.

2d 690, 697-720, 69 Cal. Rptr. 222, 229-243 (1968) (state rem-

edy exists if violations of Securities Exchange Act of 1934

are found); Miller v. Livingstone, 25 App. Div. 2d 106, 267

N.Y.S. 2d 249, aff’d, 18 N.Y. 2d 967, 278 N.Y.S. 2d 206 (1966)

(falsity of financial statement and misrepresentation of quali-

fications are insufficient to state a right of action for fraud) ;

see also Koos v. Ludwig, 22 App. Div. 2d 666, 253 N.Y.S. 2d

380 (1964); Brown v. Bullock, 35 Misc. 2d 370, 230 N.Y.S.

2d 660 (Sup. Ct.), aff'd, 17 App. Div. 2d 424, 235 N.Y.S. 2d

837 (1962) ; Levine v. Silverman, 48 Misc. 2d 415, 251 N.Y.S.

2d 68 (Sup. Ct. 1964); Note, The Regulation of Investment

Advisers, 14 Stan. L. Rev. 827, 8382-834 (1962).

a eb ee

Corp., supra, 566 F.2d at 1242-1243; Sullivan v.

Chase Investment Services of Boston, Inc., swpra, 434

F. Supp. at 184; ef. SEC v. Capital Gains Research

Bureau, Inc., supra, 375 U.S. at 191-192. Closing the

doors of the federal courts to claims of fraud would

increase the possibility that investment advisers with

clients in many different states (advisers who them-

selves advocated uniform federal regulation) would

be subject to divergent state law standards of duty.

Congress’ creation of a uniform system of regulation

weighs heavily against such a result.”

E. Private Remedies Under The Act Are Consistent With

Blue Chip Stamps

Judge Gurfein’s dissenting opinion in Abrahamson

v. Fleschner, supra, 568 F.2d at 884, expressed con-

cern about creation of an “open-ended” private right

of action and suggested that a private right of action

te enforce Section 206 would conflict with the pur-

chaser-seller standing requirement of Blue Chip

Stamps v. Manor Drug Stores, supra. That reason-

ing fails to take into account the essential difference

between Section 206 of the Investment Advisers Act

*2 Reliance on state law principles to resolve the issues

raised by this complaint would be most inappropriate. The

complaint charges that the advisory contract is void for fail-

ure to comply with the registration requirements of the fed-

eral Act. It also alleges self-dealing transactions and misap-

propriation of investment opportunities violative of the anti-

fraud provision of the Act. These allegations should be ana-

lyzed under the express terms and policies of the Act, not un-

der common law principles.

and Section 10(b) of the Securities Exchange Act:

Section 206 safeguards the fiduciary relationship be-

tween investment advisers and their clients, while

Section 10(b) protects the integrity of securities

transactions and securities markets, extending to

anonymous buyers and sellers om exchanges who have

no other relationship to each other. Santa Fe Indus-

tries, Inc. v. Green, supra, 430 U.S. at 471 n.11;

Blue Chip Stamps v. Manor Drug Stores, supra, 421

U.S. at 728.

In Blue Chip Stamps the Court considered the con-

sequences of the express statutory limitation in Sec-

tion 10(b) that the fraud be “in connection with the

purchase or sale of any security.” 421 U.S. at 733.

There could be no private damages remedy without a

purchase or sale. The same form of analysis, applied

here, demonstrates that Judge Gurfein’s concern is

unwarranted. Subsections (1), (2) and (4) of Sec-

tion 206, 15 U.S.C. 80b-6(1), (2) and (4), proscribe

fraudulent practices of investment advisers even if

they do not occur in connection with securities trans-

actions. The omission of a purchase or sale require-

ment in subsections (1), (2) and (4) cannot be

deemed to be inadvertent, particularly in light of the

fact that subsection (3) contains such a require-

ment.” See Blue Chip Stamps v. Manor Drug Stores,

supra, 421 U.S. at 734.

*8 Section 206(3), 15 U.S.C. 80b-6(3), which concerns pur-

chases or sales of securities for a client’s account by an in-

vestment adviser acting as a principal or broker for the ac-

count of another person, expressly relates to purchase or sale

transactions.

i li A A Ne i a i lt rel

The prohibition in Section 206 of fraudulent prac-

tices, even when not in connection with a securities

purchase or sale, reflects the recognition that the de-

vices employed by investment advisers to defraud

their clients may have little direct relationship to

specific securities transactions. For example, a cus-

tomer may be defrauded when an adviser receives

compensation on the basis of false promises of large

profits. See SEC v. C. R. Richmond & Co., 565 F.2d

1101, 1106 (9th Cir. 1977) ; Marketlines, Ine. v. SEC,

384 F.2d 264, 266 (2d Cir. 1967), cert. denied, 390

U.S. 947 (1968). Similarly, clients may be defrauded

when an adviser falsely promises to guarantee them

against losses. See SEC v. Seipel, [1952-1956] CCH

Fed. Sec. L. Rep. { 90,735 (D. D.C. 1954), aff’d, 229

F.2d 758 (D.C. Cir. 1955). An adviser who conceals

his insolvency or precarious financial condition from

clients also has acted fraudulently. See IJntersearch

Technology, Inc., [1974-1975] CCH Fed. Sec. L. Rep.

" 80,189 at 85,189 (SEC 1975). And fraud may

occur when an adviser secretly misuses the funds of

his client for personal benefit. See Steadman Security

Corp., [1977-1978] CCH Fed. Sec. L. Rep. § 81,243

at 88,339-5 to 88,339-8 (SEC 1977), appeal pending,

No. 77-2415 (5th Cir.).

The absence of a purchase or sale limit to the scope

of Section 206 does not mean, however, that private

actions will threaten open-ended liability or unman-

ageable judicial probleins. Because Section 206 must

be understood in light of the legislative purpose to

protect the fiduciary relationship between client and

adviser (SEC v. Capital Gains Research Bureau, Inc.,

supra, 375 U.S. at 191), it has its own limits on the

scope of liability. The statute presupposes the exist-

ence of a relationship of financial trust or reliance

between the defendant and the plaintiff. That effec-

tively limits the number of potential plaintiffs and

rules out unforeseen liabilities to the general public.

A “privity of dealing or even personal contact be-

tween potential defendant and potential plaintiff”

would be the rule in any action under the Investment

Advisers Act. Blue Chip Stamps v. Manor Drug

Stores, supra, 421 U.S. at 745, 747. See also Reserve

Management Corp. v. Anchor Daily Income Fund,

Inc., [1978] CCH Fed. Sec. L. Rep. § 96,566 at

94,371 (S.D. N.Y. 1978).

The clients of an adviser are a determinable class;

they are often personally known by the adviser and

their reliance on the adviser’s honesty is clearly fore-

seeable. Cf. Affiliated Ute Citizens v. United States,

supra, 406 U.S. at 151-154. Moreover, defrauded

clients will be entitled to damages only “to the extent

that they can be shown.” See Mills v. Electric Auto-

Lite Co., supra, 396 U.S. at 389."

* There are doubtless 1 number of open questions concern-

ing the necessary elemeviis of a private right of action. Cf.

SEC v. Capital Gains Research Bureau, Inc., supra, 375 U.S.

at 194; Ernst & Ernst v. Hochfelder, 425 U.S. 185 (1976). The

courts below did not reach any such issues. This Court need

decide only whether a remedy should be implied, as in J. J.

Case Co. V. Borak, supra, 377 U.S. at 481-435. Any questions

concerning the elements of the claim and the appropriate lim-

its of relief should be left for consideration in the first in-

stance by the lower courts. Cf. SEC v. National Securities,

Inc., supra, 393 U.S. at 465.

-_ ll teas

In sum, because the duty of the adv.ser to his

clients is well established, and because the plaintiff

class is limited to persons who are entitled to rely on

the faithful performance of that duty, private suits

for damages are well suited to help enforce the sub-

stantive rules that Congress has prescribed.

CONCLUSION

The judgment of the court of appeals should be

affirmed.

Respectfully submitted.

WADE H. McCREE, JR.

Solicitor General

FRANK H. EASTERBROOK

Deputy Solicitor General

STEPHEN M. SHAPIRO

Assistant to the Solicitor General

RALPH C. FERRARA

General Counsel

PAUL GONSON

Principal Associate General Counsel

JAMES H. SCHROPP

Assistant General Counsel

ANNE C. FLANNERY

Attorney

Securities and Exchange Commission

FEBRUARY 1979

wl ov. S. GOVERNMENT PRINTING OFFICr; 1979 286485 314

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