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May 2017: S.D.N.Y Victory for E*TRADE Against Putative Class Action Challenging Best Execution

May 2017

In an action captioned Raynor v. E*TRADE Financial Corporation, the firm obtained an important victory in the Southern District of New York on behalf of E*TRADE Financial Corporation and E*TRADE Securities LLC. Ty Raynor, on behalf of a putative plaintiff class challenging E*TRADE’s order routing practices, alleged that E*TRADE was able to earn tens of millions of dollars in “Payment for Order Flow” by selecting trading venues that paid rebates over venues that did not, regardless of the quality of service the venues offered to clients or how efficiently they executed trades. According to Mr. Raynor, E*TRADE violated its duty of best execution. The action is one of a series brought by plaintiffs around the country challenging the order-routing practices of the online discount brokerage industry with respect to non-directed, standing limit orders.

Arguing that the duty of best execution is “rooted in common law agency principles of undivided loyalty and reasonable care” that “predate the securities laws,” the purported class styled their causes of action as state law claims. The class asserted breach of fiduciary duty, unjust enrichment, and a request for a declaratory judgment declaring that E*TRADE was not entitled to keep the Payment for Order Flow that it received from the venues. United States District Judge John G. Koeltl, of the Southern District of New York, rejected all three claims and granted E*TRADE’s motion to dismiss. Specifically, Judge Koeltl held the action was predicated on allegations of “material misrepresentations and omissions that were designed to induce clients to execute . . . orders with E*TRADE even though E*TRADE allegedly had no intention of fulfilling its purported fiduciary obligations.” As the Court noted, such claims are not permitted under the Securities Litigation Uniform Standards Act (“SLUSA”).

Mr. Raynor attempted to avoid SLUSA by arguing that the suit did not involve trading, but rather E*TRADE’s practices regarding the selection of venues to route orders. Specifically, the complaint purported to challenge E*TRADE’s due diligence in selecting venues. Holding that the claims “necessarily challenge what E*TRADE told the plaintiff about its execution practices, and the nature of E*TRADE’s obligations to plaintiffs,” the Court ruled that SLUSA prohibited the plaintiff from asserting state law claims.

The Court also rejected Mr. Raynor’s argument that the Supreme Court’s opinion in Chadbourne & Parke v. Troice, 134 S. Ct. 1058 (2014) modified prior Supreme Court precedent with respect to SLUSA’s requirement that before a claim could be precluded under SLUSA, it had to “coincide with a securities transaction” in a covered security. Judge Koeltl ruled that Troice, which, dealt with uncovered securities, had “no connection to this case.”

The decision is the first case in the Southern District of New York to address SLUSA in the context of a broker-dealer’s best execution duties.