Merrill Lynch, Pierce, Fenner & Smith Inc. v. Manning
2016 U.S. LEXIS 3049, 136 S. Ct. 1562, 578 U.S. 374 (2016)
Rule of Law:
Section 27 of the Securities Exchange Act of 1934, which grants federal courts exclusive jurisdiction over suits “brought to enforce” any liability or duty under the Act, establishes the same jurisdictional test as the general federal question statute, 28 U.S.C. §1331, for cases “arising under” federal law.
Facts:
- Greg Manning held over two million shares of stock in Escala Group, Inc., a company traded on NASDAQ.
- Between 2006 and 2007, Escala’s share price dramatically fell, causing Manning to lose most of his investment.
- Manning alleged that Merrill Lynch and other financial institutions devalued Escala through “naked short sales” of its stock.
- “Naked short sales” occur when a seller does not borrow the stock before selling it, failing to deliver promised shares, which can drive down a stock’s price.
- The Securities and Exchange Commission (SEC) regulates such sales under Regulation SHO, issued under the Exchange Act, to curb market manipulation.
- Manning’s complaint asserted that Merrill Lynch’s conduct violated various New Jersey state laws (New Jersey Racketeer Influenced and Corrupt Organizations Act, New Jersey Criminal Code, New Jersey Uniform Securities Law, and the New Jersey common law of negligence, unjust enrichment, and interference with contractual relations).
- Although Manning chose not to bring federal claims, his complaint explicitly referred to Regulation SHO, cataloguing past accusations against Merrill Lynch and suggesting the current transactions also violated the regulation.
Procedural Posture:
- Greg Manning and other former Escala shareholders filed a lawsuit against Merrill Lynch and other financial institutions in New Jersey state court, alleging violations of New Jersey law.
- Merrill Lynch, as defendant, removed the case to Federal District Court, asserting federal jurisdiction under 28 U.S.C. §1331 (general federal question) and 15 U.S.C. §78aa(a) (Section 27 of the Exchange Act, granting exclusive federal jurisdiction).
- Manning moved to remand the case back to state court, arguing federal court lacked jurisdiction.
- The District Court denied Manning’s motion, maintaining federal jurisdiction.
- Manning appealed to the Third Circuit Court of Appeals, which reversed the District Court’s decision, holding that neither §1331 nor §27 conferred jurisdiction, and ordered the case remanded to state court.
- Merrill Lynch, as petitioner, sought certiorari from the Supreme Court, challenging the Third Circuit’s interpretation of Section 27.
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Issue:
Does Section 27 of the Securities Exchange Act of 1934, which grants federal courts exclusive jurisdiction over suits “brought to enforce” Exchange Act duties or liabilities, provide an independent jurisdictional basis separate from the general federal question “arising under” jurisdiction of 28 U.S.C. §1331, such that a state-law claim merely referencing a federal securities regulation would fall under federal exclusive jurisdiction?
Opinions:
Majority - Elena Kagan
Yes, Section 27 of the Securities Exchange Act of 1934 establishes the same jurisdictional test as the “arising under” standard of the general federal question statute, 28 U.S.C. §1331. The Court reasoned that the phrase “brought to enforce” in §27 should be read naturally to mean actions commenced “in order to give effect to an Exchange Act requirement.” This interpretation captures cases where federal law creates the cause of action and the “special and small category” of state-law claims that “necessarily raise a stated federal issue, actually disputed and substantial, which a federal forum may entertain without disturbing any congressionally approved balance” of power, as established in Grable & Sons Metal Products, Inc. v. Darue Engineering & Mfg. (the Grable test). The Court noted that its precedents, Pan American Petroleum Corp. v. Superior Court of Del. and Matsushita Elec. Industrial Co. v. Epstein, had previously treated “brought to enforce” as coextensive with “arising under.” This approach respects the traditional role of state courts, avoids an expansive reading of federal jurisdiction, and promotes administrative simplicity by using a familiar and time-tested jurisdictional standard rather than creating a new, unfamiliar test.
Concurring - Clarence Thomas
No, the jurisdictional test for Section 27 should not be the same as the “arising under” standard under 28 U.S.C. §1331. Justice Thomas concurred in the judgment, agreeing that Manning’s suit belongs in state court, but argued that the Court wrongly equates the “brought to enforce” language of §27 with the “arising under” language of §1331. He posited that §27 establishes a simpler, textual test: federal jurisdiction exists if the complaint alleges claims that necessarily depend on a breach of an Exchange Act requirement. He contended that the Grable “arising under” standard is atextual and involves complex, unpredictable judgments (e.g., “substantial” federal issue, “balance” of federal and state power). He asserted that when Congress uses different language in statutes, it typically intends different meanings, and given the “unruly” nature of §1331 jurisprudence at the time §27 was enacted, it is unlikely Congress intended to adopt such a vague standard. He concluded that Manning’s state-law claims, even with references to Regulation SHO, do not necessarily depend on proving a breach of a federal Exchange Act duty to prevail, and thus do not trigger federal jurisdiction under a plain reading of §27.
Analysis:
This case provides crucial clarity on the scope of exclusive federal jurisdiction under Section 27 of the Exchange Act, aligning it with the long-established “arising under” jurisprudence of 28 U.S.C. §1331. By explicitly adopting the Grable test, the Supreme Court reinforces the principle that federal jurisdiction over state-law claims is a narrow exception, preventing “artful pleading” from dictating jurisdiction while also preventing over-expansive federalization of state-law disputes. This ruling ensures a consistent and predictable framework for determining federal jurisdiction in cases involving both federal and state securities laws, potentially reducing jurisdictional challenges in complex financial litigation.
