1. LEB Slide Set 13 Legal Liabilities on Securities Markets
Calculating Adequately Causal Losses
Matti Rudanko

2. Prerequisites of a compensation claim:
Market Fraud Theory
(1) insufficient or false information was published by the defendant
(2) the inadequacy of the information was material
(3) the securities were quoted on an efficient market
(4) the inadequacy makes an average investor to misjudge the price of the actual security, and
(5) the plaintiff transacted during the period between the publishing of the inadequate information and its correction
Prerequisites of a compensation claim:
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3. Background: market efficiency
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4. Efficient Capital Markets Hypothesis ECMH (Fama Journal of Finance 1970)
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5. Market Model for Investment Behavior
Price development gives all the information relevant to an investor
appraisal of a share is not a matter of economic valuation of the enterprise or its assets
Cf. Information Theory of investment behavior
investors seek as much information as possible and analyze it as a basis for investment decisions -
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6. CAPM, Black – Scholes (1973 Journal of Political Economy)
Theoretical models with mathematical method based applications
Capital-asset pricing model (CAPM)
See next slide
Black – Scholes options pricing model
Right price: not possible to get risk free profits (arbitrage) by creating investment portfolios from short / long positions of an option and corresponding asset (share)
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7. Capital Asset Pricing Model (CAPM)
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8. Portfolio theory and damages
Systematic risk (market risk)
portfolio diversification
entitles to no compensation
non-systematic risk
ß -coefficient: relation between the volatility of a share and that of the market
helps to correct the price development of the share for assessing the loss due to info failures
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9. Event Study Based Method of Calculating Damage
Dannenberg – Turtiainen 2013 European Journal of Law and Economics
Based on material from TJ Group Case (KKO 2009:1)
Market correlations after the the event (rectificaton of the false information, e.g. profit warning) are used to calculate backwards from the event.
Statistical confidence levels are assumed
Question to solve: how markets would have behaved if the information had been published earlier
More accurate mathematical tools available
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10. More Accurate Mathematical Tools vs. Supreme Court Reasoning
KKO 2009:1: Defining the utility pursued and produced by misuse of inside information often based on such estimations that the random factors affecting them cannot be known in advance and that their influence on the rate of securities cannot exactly be known afterwards.
Dannenberg and Turtiainen (2013): wanton court practices while damages are estimated subjectively without mathematical tools resulting in too mild verdicts
A question of legal safety and due process
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11. Damage due to information failure
Damage due to information failure should usually be compensated only to investors who have traded in securities affected by the information failure during the duration of the effect of the information failure.
Decision not to invest should in general not be deemed to be a compensabe loss, nor the effect of the information failure on the price of other securities of the issuer unless the information failure is a case of market abuse.
The duration of the effect of an information failure shall in general be deemed to end when the wrong informaton has been corrected.
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12. Compensation of Price Difference
According to international practice, compensation of price difference is the way of defining the loss due to information failures. Other methods of loss definition may be appropriate when price formation on the market has not been efficient.
Price difference based compensation consists of the difference between the materialized purchase or selling price of the security and the price of the security at the trading moment under correct information
It prevents compensation of market risk and uncontrollably large damages liabilities that would also be speculative with respect to their contents.
The compensation shall be decreased by the amount of the profit that the information failure has yielded to the injured person in reverse trades
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13. Assessing the amount of a loss
The “maturity time” (becoming compensable) of loss
e.g. breach of redemption duties (SMA 11:23): the current price of redemption time subtracted with actual current price (possible later profits have no effect)
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14. Trial on Securities Markets Loss Cases
The Act on Class Actions (444/2007) Act does not apply to a civil case concerning the conduct of an issuer of securities or the offeror in a takeover bid or mandatory bid.
In a criminal case, e.g. abuse of insider information, there is no injured party but the object of legal protection is confidence in securities markets. An investor has no plaintiff position in these cases. (the Finnish Supreme Court KKO 2000:82, so-called Kansallisanti [National Issue] case).
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