Thursday, March 17, 2011

Consumer Class Action Against Investment Firm Preempted by Securities Law

This posting was written by Jody Coultas, Editor of CCH State Unfair Trade Practices Law.

An investor’s California Unfair Competition Law (UCL) claims—based on alleged misrepresentations made by investment company Charles Schwab—were preempted by the Securities Litigation Uniform Standards Act of 1998 (SLUSA), and the investor could not seek diminution-in-share value as a remedy, according to the federal district court in San Jose, California. However, the investor was granted leave to amend the claims.

A UCL class action was filed on behalf of investors in a Charles Schwab fund allegedly suffered substantial losses after managers deviated from the stated investment strategy by relying heavily on high-risk residential mortgage-backed securities.


The company argued that the investor could not prove an actual injury stemming from lost money or property because the investment was actually profitable based on net gain. However, the UCL required only that the investor assert an identifiable trifle of economic injury to have standing.

The investor could conceivably show an injury at trial based on losses resulting from the alleged unlawful activity based on the fact that the investment would have gained more if the company had not committed the unlawful activity, according to the court.

A UCL claim could be predicated on a violation of the Investment Company Act (ICA) by an investment company, according to the court. There was no express bar prohibiting private enforcement of the ICA.

Federal Preemption

The SLUSA was enacted to prevent lawsuits concerning securities law violations being filed in state courts and prohibits class actions of more than 50 people if the claim is based on misrepresentations or omissions of a material fact in connection with the purchase or sale of a covered security.

To the extent that the UCL claims were based on the firm’s alleged misrepresentations, the court held that the claims were preempted. However, the investor was granted leave to amend the claim to state a UCL claim for violation of investors’ voting rights. Such a claim could state a UCL claim based on a violation of the Investment Company Act without implicating the SLUSA’s preemption of misrepresentation claims.


Damages are not available under the UCL, and the company argued that the investor could not bring a UCL claim for the difference in value of the stock. Rather, remedies under the UCL are limited to restitution and injunctive relief. Thus, the UCL claim was dismissed in part. However, the court stated that if the investor could fashion the claim to circumvent SLUSA preemption, a claim for restitution of the fees paid the company could be recovered as restitution.

The March 8 decision is Smit v. Charles Schwab & Co., Inc., CCH State Unfair Trade Practices Law ¶32,221.

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