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Market Efficiency, Crashes and Securities Litigation

31 Pages Posted: 19 Dec 2005  

Bradford Cornell

California Institute of Technology

James Rutten

Munger, Tolles & Olson, LLP

Date Written: December 2005


In Basic, Inc. v. Levinson the United States Supreme Court effectively affirmed the efficient market hypothesis by ruling that a plaintiff who purchased securities on an open and developed market can be presumed to have relied on the integrity of the market price. Although the Court confined its analysis to the question of reliance, and explicitly avoided any question of damages, Justice White worried in his dissent that one could not be separated from the other. In this paper, we argue that Justice White's concerns were well founded. In light of theoretical and empirical research in finance, we show that the failure to understand the differing implications of the efficient market hypothesis for proving reliance and assessing damages introduces a significant plaintiff bias in securities class action litigation. Furthermore, although Congress attempted to address this bias by passing Private Securities Litigation Reform Act of 1995, the steps it took are unlikely to be effective.

Keywords: Securities litigation, Efficient Market Hypothesis

JEL Classification: G10, G30, K10

Suggested Citation

Cornell, Bradford and Rutten, James, Market Efficiency, Crashes and Securities Litigation (December 2005). Available at SSRN: or

Bradford Cornell (Contact Author)

California Institute of Technology ( email )

Pasadena, CA 91125
United States
310-825-2922 (Phone)
310-206-5455 (Fax)

James Rutten

Munger, Tolles & Olson, LLP ( email )

355 South Grand Avenue
35th Floor
Los Angeles, CA 90071-1560
United States

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