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Saxe v. Hutton

April 23, 1986


Saxe appeals from a judgment of the United States District Court for the Southern District of New York (Carter, J.), dismissing his complaint for failure to state a claim pursuant to CEA section 4b and Rule 10b-5. Affirmed in part, reversed in part and remanded.

Author: Kaufman

Before: KAUFMAN, TIMBERS and MESKILL, Circuit Judges.

KAUFMAN, Circuit Judge:

We are called upon to review the dismissal of an investor's plea that certain investment advisors fraudulently lured him into the highly speculative area of commodities trading. Needless to say, this foray resulted in a financial disaster. Although the claim is all too familiar in the securities law context, here we consider it under the relatively unexplored anti-fraud provisions of the Commodities Exchange Act. Mindful of the Supreme Court's admonition that a complaint should not be dismissed pursuant to Fed.R.Civ.P. 12(b)(6) unless it appears "beyond doubt that the plaintiff can prove no set of facts . . . [entitling] him to relief," Conley v. Gibson, 355 U.S. 41, 45-46, 2 L. Ed. 2d 80, 78 S. Ct. 99 (1957), we reverse the judgment in part and remand for further proceedings.

Before proceeding to the substance of this appeal, we set forth the factual landscape as detailed in the complaint. In reviewing a dismissal for failure to state a claim pursuant to Fed.R.Civ.P. 12(b)(6), we accept the allegations in the complaint as true.

In May 1981, Barry Saxe ("appellant") opened a discretionary stock account with E.F. Hutton & Company, Inc. ("Hutton"), a securities broker-dealer and futures commodity merchant ("FCM"). Commencing in June 1982, Scott A. Howard, a Vice President at Hutton, called Saxe frequently to solicit his participation in specific investment programs offered by Hutton. Howard represented himself as "an expert in the field of money management." He held himself out to be more than an "ordinary" stockbroker.

By the end of 1982, appellant's stock account at Hutton had suffered drastic losses. No longer willing to tolerate the poor performance of his portfolio, Saxe sought Howard's advise on a "safe, conservative non-speculative type of investment program." Accordingly, Howard suggested to Saxe that he open an account with Hanger Associates, Inc. ("Hanger"), a registered commodities trading advisor. When Saxe expressed his apprehension over commodities trading, an area with which he was totally unfamiliar, Howard attempted to allay his fears. He reassured appellant that Hanger was a "huge, formidable and well-established firm, which used a computerized trading program specially designed to suit the particular needs of the individual customer." Indeed Howard claimed Hanger "always made money for its clients." Moreover, Howard furnished Saxe with an "Advisory Agreement," prepared by Hanger, indicating that Hanger would "formulate a comprehensive commodities trading program, utilizing diversified trading techniques, custom designed to [Saxe's] available capital and trading objectives." Howard urged Saxe to open his account without delay because Hanger was expected to increase its minimum investment requirement in the near future.

Relying on these assertions, Saxe opened a discretionary commodities trading account with Hanger in January 1983. By June 1983, he had liquidated his Hutton stock account and reinvested approximately $200,000 with Hanger. Moreover, Saxe apparently made a larger investment than he originally intended because of Howard's promise that Saxe would "make . . . a million dollars." By September 1983, however, Saxe's Hanger account was in financial difficulty. Concerned over the continued propriety of his investment, Saxe called the firm directly. A Hanger employee insisted that his account was being responsibly managed, and that he would recoup his losses by the end of the year. Thus reassured, appellant decided not to close the account.

Hanger's comforting promises, however, did not materialize. In January 1984, Saxe again called Hanger to voice his dissatisfaction. Ken Hanger, an officer of Hanger Associates, informed Saxe that Hutton should not have solicited, nor should Hanger have opened, Saxe's commodities account. Hanger stated that it was the firm's policy not to accept funds constituting more than 5-10% of an investor's risk capital--a restriction which Saxe's investment had exceeded. Ken Hanger further stated that Hutton was aware of this requirement, and had Hanger known of Saxe's financial situation and investment goals, the firm would have refused to accept Saxe's account.

In subsequent conversations, Howard told Saxe he should be reimbursed for his losses and referred him to Paul Foster, a Hutton attorney. Foster orally conceded to Saxe that Hutton has placed him in an inappropriate investment program, and tacitly implied that he would be fully reimbursed. In May, 1984, appellant closed his Hanger account, which by that time had lost $130,000. Although he forwarded his records to Foster, expecting he would be reimbursed as suggested, Saxe was never compensated for his losses.

Thereafter, Saxe filed an action against Hutton, Howard and Hanger ("appellees") in the United States District Court for the Southern District of New York, seeking to recover his $130,000 loss plus $1,000,000 in punitive damages. Saxe's amended complaint alleged that he had been fraudulently induced through false representations made by appellees to open the commodities account. Jurisdiction was predicated on the Securities and Exchange Act of 1934, 15 U.S.C. § 78a et seq., Securities and Exchange Commission Rule 10b-5 ("Rule 10b-5"), 17 C.F.R. 240.10b-5, and the Commodity Exchange Act ("CEA"), 7 U.S.C. § 1 et seq. He further claimed that the commodities account had been churned, and asserted state law claims of negligence, breach of contractual and fiduciary duties, and infliction of physical and emotional distress.

Appellees moved to dismiss. Judge Carter granted the motion pursuant to Fed.R.Civ.P. 12(b)(6) ruling that Saxe had failed to state a claim under the federal securities and commodities law. He also dismissed appellant's churning claim because it was not pleaded with particularity, Fed.R.Civ.P. 9(b).*fn1 Accordingly, the district court declined to exercise pendant jurisdiction over the state law claims. We affirm the dismissal of the 10b-5 securities claim. However, we reverse the remainder of the judgment and remand for further proceedings.

The essence of Saxe's 10b-5 claim is that he was fraudulently induced to liquidate his Hutton stock portfolio in order to invest those funds in the Hanger discretionary account. Appellant contends that but for the misrepresentations about Hanger, he would not have closed his account at Hutton. This turn of events, Saxe claims, brought his claim within the scope of Rule 10b-5, which requires a fraudulent scheme to be "in connection with" the purchase or sale of a security. Judge Carter rejected this argument because the complaint failed to allege any misrepresentation concerning the securities appellant sold. We agree.

Appellant's argument fails for several reasons. While Saxe may have been financially unable to open an account at Hanger had he not closed his Hutton account, the misrepresentations he alleges relate only to the commodity futures he would invest in through Hanger. Saxe did not allege that appellees misled him concerning the value of the securities he sold or the consideration he received in return. In this regard, our holding in Chemical Bank v. Arthur Andersen & Co., 726 F.2d 930, 943 (2d Cir.), cert. denied, 469 U.S. 884, 105 S. Ct. 253, 83 L. Ed. 2d 190 (1982), is controlling. In finding the pledge of securities as collateral for a loan too remote to satisfy the "in connection with" requirement of 10b-5, Judge Friendly wrote: "The purpose of . . . Rule 10b-5 is to protect persons who are deceived in securities transactions--to make sure that . . . sellers of ...

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