United States v. Litvak
889 F.3d 56 (2018)
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Rule of Law:
In a securities fraud prosecution, the materiality of a misstatement is judged by an objective "reasonable investor" standard, making a particular investor's idiosyncratic and factually erroneous belief, such as a mistaken belief in an agency relationship, irrelevant and its admission potentially prejudicial reversible error.
Facts:
- Jesse Litvak worked as a bond trader for Jefferies & Company, buying and selling complex securities known as Residential Mortgage-Backed Securities (RMBS) with sophisticated institutional investors.
- Broker-dealers like Jefferies acted as principals in these arms-length transactions, not as agents for their counterparties, assuming the risk of the trades to profit by buying low and selling high.
- On July 1, 2010, Litvak engaged in a BWIC (bids-wanted-in-competition) trade with Brian Norris, a representative for Invesco Ltd.
- Norris informed Litvak that Invesco was willing to bid 79-24 (a price per $100 of face value) for a specific RMBS bond.
- Litvak successfully bid for and purchased the bond at a lower price, 79-16.
- Litvak then falsely told Norris in an online chat, "I bid your level," misrepresenting his purchase price as 79-24.
- Based on this false information, Norris agreed to purchase the bond from Jefferies at a price of 79-30, believing Jefferies' profit was 6 ticks.
- Litvak's misrepresentation of the acquisition price inflated Jefferies' profit on the $23.6 million transaction by approximately $73,000.
Procedural Posture:
- The government indicted Jesse Litvak in the U.S. District Court on charges of securities fraud, TARP fraud, and making false statements.
- Following a jury trial, Litvak was convicted on ten counts of securities fraud and the other charges.
- Litvak appealed his conviction to the U.S. Court of Appeals for the Second Circuit.
- In the first appeal (Litvak I), the Second Circuit reversed the TARP fraud and false statements convictions, and it vacated the securities fraud convictions and remanded for a new trial due to the improper exclusion of defense expert testimony.
- Litvak was retried in the U.S. District Court on the ten securities fraud counts.
- The jury in the second trial acquitted Litvak on nine counts but convicted him on one count of securities fraud.
- Litvak (appellant) appealed his new conviction to the U.S. Court of Appeals for the Second Circuit, with the United States as appellee.
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Issue:
Does a district court commit a reversible error by admitting testimony about a counterparty's subjective and erroneous belief that a broker-dealer was acting as his agent, when materiality in a securities fraud case is judged by an objective standard and that testimony is the only evidence distinguishing a count of conviction from nine counts of acquittal?
Opinions:
Majority - Winter, Circuit Judge
Yes. The district court committed a reversible error because an investor's idiosyncratic and erroneous belief is irrelevant to the objective materiality standard. The materiality of a misstatement is determined by its importance to a hypothetical 'reasonable investor,' not the subjective viewpoint of a specific, mistaken counterparty. In this case, it is undisputed that no agency relationship existed between Litvak and Norris; in fact, Norris's own company had informed him of this. Admitting Norris's testimony about his personal, incorrect belief that Litvak was his agent was an error because it was not probative of what an objective, reasonable investor in the RMBS market would have thought. This error was not harmless; it was prejudicial because the jury acquitted Litvak on nine similar counts, and the only distinguishing evidence on the sole count of conviction was this improper testimony about a perceived agency relationship, which the government then used to argue a 'relationship of trust' existed. Therefore, the conviction must be vacated.
Analysis:
This decision reinforces the objective nature of the materiality standard in securities fraud, particularly in markets with sophisticated participants. It establishes that while a counterparty's testimony can be relevant, it becomes inadmissible when based on a demonstrably false legal and factual premise, such as a non-existent fiduciary relationship. The court signals that prosecutors cannot use a 'victim's' unreasonable or mistaken beliefs to satisfy an objective element of a crime. This holding protects defendants from being convicted based on the idiosyncratic views of a single counterparty rather than on the established norms and understandings of a reasonable market participant.
