Federal Courts Dismiss Fiduciary Class Action Against JPMorgan

January 30, 2017

Today's BrokeAndBroker.com Blog examines a Class Action lawsuit brought on behalf of JPMorgan financial advisory clients. It's an interesting bit of litigation involving allegations that JPMorgan pressured its financial advisors to engage in what comes off as akin to a pump-and-dump of its proprietary mutual funds and investments. The lawsuit raises many troubling questions about fiduciary duties and dredges up the ongoing debate about whether checking off the Suitability box when recommending investments is enough. The problem for the Plaintiffs -- the formidable challenges -- is whether they can plead their proposed Class Action in a manner that will allow the case to proceed.

Case In Point

The picture painted by Plaintiffs is not a pretty one. They accuse JPMorgan of conduct that is reminiscent of what we came to expect from the old boiler-rooms and pennystock shops. Alleged are a host of tactics and policies that seem to entice (if not pressure) financial professionals to push product on their customers when the overwhelming motivation behind such recommendations is larger payouts to the advisors rather than the best interests of their customers. As more fully set forth in Patricia Holtz; Aunt Marlene Foundation; and Steven Greenspon, individually and on behalf of all others similarly situated, Plaintiffs, v. J.P. Morgan Securities LLC; JPMorgan Chase Bank, N.A.; JPMorgan Chase & Co.; and J.P. Morgan Investment Management Inc., Defendants (Memorandum Opinion and Order, United States District Court for the Northern District of Illinois, 13-CV-07080, June 26, 2013)the United States District Court for the Northern District of Illinois ("NDIL") provides this summary:

According to Plaintiffs, Defendants pushed and incentivized their financial advisors to put Defendants' own financial interests ahead of those of their clients. (Id. ¶ 3.) In particular, Defendants required their financial advisors to strongly push and sell Defendants' own proprietary mutual funds and investments, as opposed to those funds and investments managed by third parties. (Id.) As a result of these practices, Defendants were able to substantially grow their assets and collect management fees, including the fees from JPMorgan-affiliated funds and investments themselves, as well as the fees from JPMorgan-affiliated entities that managed and provided services to the JPMorgan funds and investments. (Id.)

Defendants utilized a generous bonus structure to incentivize and pressure their financial advisors to steer or "switch" clients into JPMorgan proprietary funds and investments. (Id.¶¶ 5, 7.) These switches were done for no other reason than to maximize revenues for Defendants' self-interested reasons and were contrary to client interests and not the result of research and analysis performed by the financial advisors. (Id. ¶ 7.) In contrast, financial advisors were not rewarded with high bonuses based on client performance or for placing clients in non-JPMorgan- sponsored investments. (Id.¶ 7.)

Plaintiffs aver that Defendants breached contractual and fiduciary duties to act in their clients' best interests. Plaintiffs point to Defendants' statements about their fiduciary and contractual duties to clients that appear on JPMorgan's website and also in documents filed with the Securities and Exchange Commission (the "SEC"), as admissions by the Defendants regarding the nature of Defendants' obligations. Plaintiffs specifically disclaim that their allegations are not to be construed as allegations of fraud, misrepresentation or material omission. (See Am. Compl. ¶¶ 1, 23-26, 35-40; Pl.'s Resp. Br. at pp. 8-9.)

Defendants have moved to dismiss Plaintiffs' Amended Complaint for three reasons. First, Defendants contend that Plaintiffs' claims are covered by the Securities Litigation Uniform Standards Act of 1998 ("SLUSA") and, therefore, subject to dismissal pursuant to Rule 12(b)(6). Second, Defendants contend that the Amended Complaint should be dismissed for failure to state a claim under Rule 12(b)(6). Finally, Defendants argue that Plaintiffs' claims against Defendants JPMorgan Chase & Co. and J.P. Morgan Investment Management Inc. should be dismissed for lack of standing pursuant to Rule 12(b)(1).

Pages 2 -3 of the NDIL Memo

Two Threshold Factors

In granting with prejudice Defendants' Motion to Dismiss Plaintiffs' Amended Complaint, NDIL characterized Plaintiffs two arguments against the motion; namely, that the: 

  1. Amended Complaint asserts state law claims for breaches of contractual and fiduciary duties and does not allege misrepresentations or omissions of material fact to support a fraud claim; and 
  2. alleged wrongful acts were not done "in connection" with the purchase or sale of a security.

SIDE BAR: 15 U.S. Code § 78bb

(f) Limitations on remedies

(1) Class action limitations. No covered class action based upon the statutory or common law of any State or subdivision thereof may be maintained in any State or Federal court by any private party alleging-

(A) a misrepresentation or omission of a material fact in connection with the purchase or sale of a covered security; or

(B) that the defendant used or employed any manipulative or deceptive device or contrivance in connection with the purchase or sale of a covered security.

(2) Removal of covered class actions. Any covered class action brought in any State court involving a covered security, as set forth in paragraph (1), shall be removable to the Federal district court for the district in which the action is pending, and shall be subject to paragraph (1).

Artful Pleading

In considering Plaintiffs' contention that SLUSA's jurisdiction is limited to allegations of fraud, misrepresentation, or material omission and not the causes of action they pled in the form of breaches of contract and fiduciary duty, NDIL found that:

Although, as mentioned above, Plaintiffs attempt to limit the nature of these allegations to admissions by the Defendants regarding their obligations to Plaintiffs, the substance of Plaintiffs' allegations, when considered in their entirety, amounts to a claim of a fraudulent scheme by Defendants to sell Defendants' own proprietary mutual funds at the expense of their financial advisory clients. Plaintiffs' Amended Complaint is replete with allegations that Defendants misrepresented its services for its own financial gain. The allegations of Plaintiffs' Amended Complaint "make it likely that an issue of fraud will arise in the course of the litigation." Brown, 664 F.3d at 128-29. As in Brown, 664 F.3d at 129, and Jorling, 836 F. Supp. 2d at 835, it will "be difficult and maybe impossible to disentangle" the fraud from Plaintiffs' contractual and fiduciary duty claims. Consequently, despite Plaintiffs' artful pleading, the Amended Complaint presents a claim for fraud

Page 8 of the NDIL Memo

Plaintiffs argued that they were not alleging fraud in connection with the purchase or sale of a covered security but, rather, were alleging breaches of contract and fiduciary duty owed by Defendants to the proposed class of customers. NDIL seems to have again viewed that contention as more artifice and concluded that SLUSA preempted the Amended Complaint because:

[T]he alleged fraud directly relates to the sale of proprietary mutual funds and satisfies SLUSA's "in connection" requirement. See Dabit, 547 U.S. at 86-87.

Page 9 of the NDIL Memo 

7Cir Appeal

On appeal from NDIL, the case came before the United States Court of Appeals for the Seventh Circuit ("7Cir"). Patricia Holtz, et al., Plaintiffs/Appellants, v. JPMorgan Chase Bank, N.A., et al., Defendants/Appellees (Opinion, 7Cir, 13-2609 / January 23, 2017).  In framing the issues on appeal, 7Cir offers this brief characterization:

Holtz maintains that falsehoods and omissions have nothing to do with her claims. She tells us that they "are not in any way based on, dependent upon, or necessarily entangled with proof that [the Bank] made any false statements or omitted to disclose material information. Rather, [she] assert[s] simply that [the Bank] failed to provide the independent research, financial advice, and due diligence required by the parties' contract and their fiduciary relationship." The district court's problem with this contention-our problem too-is that the suit depends on Holtz's assertion that the Bank concealed the incentives it gave its employees. If it had told customers that its investment advisors were compensated more for selling the Bank's mutual funds than for selling third-party funds, plaintiffs would have no claim under either state or federal law. This means that nondisclosure is a linchpin of this suit no matter how Holtz chose to frame the pleadings.

We grant that the complaint omits any allegation of scienter, which is essential in private securities-fraud litigation. . . The statutory question is whether plaintiff alleges "a misrepresentation or omission of a material fact in connection with the purchase or sale of a covered security" (§78bb(f)(1)(A)). Whether the complaint pleads a particular state of mind is neither here nor there-a point we made in Brown v. Calamos, 664 F.3d 123, 126-27 (7th Cir. 2011), when holding that an investor cannot avoid the Litigation Act by omitting an allegation of scienter and attempting to frame common-law claims under state law. Every other circuit that has addressed the question likewise has held that a plaintiff cannot sidestep SLUSA by omitting allegations of scienter or reliance. See Miller v. Nationwide Life Insurance Co., 391 F.3d 698, 701-02 (5th Cir. 2004); Atkinson v. Morgan Asset Management, Inc., 658 F.3d 549 (6th Cir. 2011); Dudek v. Prudential Securities, Inc., 295 F.3d 875, 879-80 (8th Cir. 2002); Anderson v. Merrill Lynch, Pierce, Fenner & Smith, Inc., 521 F.3d 1278, 1284 (10th Cir. 2008).

Dabit concluded that the Litigation Act is designed to prevent persons injured by securities transactions from engaging in artful pleading or forum shopping in order to evade limits on securities litigation that are designed to block frivolous or abusive suits . . .

Page 3 - 4 of the 7Cir Opinion

A Matter of Sanity

Early on in its Opinion, 7Cir telegraphs its determination that Appellants are attempting to couch what seems a case of alleged fraud in the  trappings of "plain vanilla contract claims," a distinction that the Court is clearly not buying. Unfortunately for Appellants, 7Cir does not appear disposed to find that the asserted breaches are sufficient enough to preempt federal jurisdiction in favor of state, and, accordingly, 7Cir explains that:

After the Litigation Act, a plaintiff cannot proceed by omitting the securities theory and standing on state law in the sort of circumstances discussed in the preceding paragraph.

At oral argument, Holtz's lawyer told us that no sane person would have invested through the Bank had it revealed a bias for its own mutual funds-indeed, that the secret information contradicted the promise to act in investors' interest, and that the Bank never intended to keep its promise. All of this just brings the suit squarely within Wharf, which, recall, held that a concealed plan not to keep a promise about a securities transaction is securities fraud. Indeed, in Brown we rejected an argument that a plaintiff can avoid SLUSA by contending that no sane investor would have purchased the security (or the investment advice) if the truth had been told, and that the suit therefore must be about substance rather than disclosure. 664 F.3d at 129.

Pages 8 - 9 of the 7Cir Opinion

A Matter of Materiality

Echoing the sentiment that a rose by any other name is still a rose and fraud by any other name is still fraud, 7Cir concludes its analysis by noting:

That some of the investment decisions were made by investment advisers as Holtz's agent does not take this out of the "in connection with" domain-otherwise suitability and churning could not be a securities theory. SEC v. Zandford, 535 U.S. 813 (2002), holds that the "in connection with" requirement is satisfied when a broker makes a purchase or sale as an investor's agent. That's equally true of transactions that the Bank made as Holtz's agent.

The Litigation Act does allow state-law claims in which the misrepresentations or omissions are not "material," see Appert, 673 F.3d at 616-17, but Holtz has not argued that the Bank's incentives to its employees were too small to be "material" under the standard of Matrixx Initiatives, Inc. v. Siracusano, 563 U.S. 27 (2011), and its predecessors. An omission is "material" when a reasonable investor would deem it significant to an investment decision. Holtz herself deems the Bank's incentives material to investments; that's the basis of this suit.

Pages 10 -11 of the 7Cir Opinion

Door Left Ajar

In affirming NDIL, 7Cir asserts that in closing the door on the class action, it has not closed the door on Plaintiffs' case but merely offered them an opportunity to pursue their claims via  one-litigant-versus-another.  What is foreclosed  is Holtz suing on behalf of herself and 50 or more persons. Similarly, 7Cir notes that the Securities and Exchange Commission or various states remain free to file their own lawsuits or initiate administrative proceedings.


"JPMorgan Ordered to Pay Damages for Firing Whistle-Blower" (New York Times, by Nathaniel Popper, January 11, 2017)

"Fired federal investigators supported adviser's claim against JPMorgan" (FinancialPlanning.com, by Ann Marsh, December 9, 2016)

"FINRA and JPMorgan go after whistleblower for $624 (not a typo) loss" (FinancialPlanning.com, by Ann Marsh, September 22, 2016)