Legislative History and Implied Causes of Action in Retreat

Two themes featured in the statutory interpretation work of the U.S. Supreme Court under Chief Justice John G. Roberts, Jr., are an intense skepticism of implied rights of action and a hostility to the use of legislative history in interpreting statutes. Both were on display in FS Credit Opportunities Corp. v. Saba Capital Master Fund, a case that pitted an activist investor against a number of investment funds that the activist believed to be underperforming.

Saba Capital presented a genuinely close question of statutory interpretation and was resolved along ideological lines. The six justices in the majority were all appointed by Republican Presidents, while the three dissenting justices were all appointed by Democrats, suggesting that statutory interpretation remains not just a dry matter of judicial interpretation but a politically sensitive one. Despite this, Justice Amy Coney Barrett’s opinion for the Court admitted that Saba’s arguments were “not without force,” and she was certainly right about that.

The Investment Company Act of 1940 (ICA) is administered by the U.S. Securities and Exchange Commission (SEC) and provides for regulations that govern investment companies. The defendants in the case managed closed-end mutual funds, which issue a fixed amount of shares that trade on the open market, with market forces determining their price. Saba, the plaintiff, manages open-end mutual funds, which issue new shares on an ongoing basis that are valued daily based on what the underlying holdings are worth. As a result, open-end mutual funds can be vehicles for raising financing to, among other things, take stakes in underperforming closed end funds. As the Court put it, as the manager of open-end funds, “Saba’s investment strategy includes identifying low-performing closed-end funds and purchasing a large enough stake to change the fund’s behavior.”

The closed-end fund defendants opted into a Maryland state law limiting voting rights for activist investors, or other purchasers of large stakes in the closed-end funds, except on the approval of other shareholders. Saba then sued the defendants over those opt-ins, alleging that they violate the ICA’s requirement that every share of stock has equal voting power. For a cause of action, Saba invoked a portion of the ICA that provides that “a court may not deny rescission” of contracts that violate the ICA “at the instance of any party.” Activists such as Saba have used this statute to challenge control-share and bylaw defenses as precluded by the ICA. Other plaintiffs, including noteholders as well as shareholders, have sought to use the language to seek remedies such as rescission of contracts or restitution for allegedly excessive fees with some, but not universal, success in the lower courts.

In Saba Capital, the Court announced something close to a clear statement rule for private rights of action, stating that “a statute must use rights-creating language aimed at protecting a particular class of persons” to entitle a potential plaintiff to a right to sue. The Court emphasized that Congress had made the SEC primarily responsible for enforcement of the ICA, except in two respects. The ICA expressly authorizes a private right of action permitting shareholders to sue investment advisers for breaches of fiduciary duty, particularly by charging excessive fees, and another private right to recover short-swing trading profits—profits when insiders buy and sell stock in their companies within six months. The majority reasoned that Congress accordingly, knew how to create private rights of action in the ICA and had not clearly done so in the section on which Saba relied. The Court concluded that the rescission language was insufficient to create a cause of action and that the “any party” language did not sufficiently change the matter because that language was directed at courts rather than at a class of persons such as shareholders that Congress clearly wanted to protect with a private right.

The Roberts Court has never seen an implied right of action that it liked. It previously rejected a claim of an implied right to sue secondary actors, such as employees or contractors of a public company, who knowingly assisted in in securities fraud. It declined to infer a private right of action under a student records law, under the Alien Tort Statute against foreign corporations, and for Medicaid beneficiaries against alleged violators of the Medicaid Act. It limited the implied right of action against federal officers for violations of constitutional rights embraced in Bivens v. Six Unknown Named Agents of Federal Bureau of Narcotics and has suggested that extending Bivens would amount to “disfavored judicial activity.” In this sense, the Saba case is consistent with that hostility, which the Court noted was guided in part by separation-of-powers concerns and the possibility that the judiciary would empower itself by inferring causes of action in the face of ambiguous statutory text.

Both Justice Ketanji Brown Jackson’s dissent and Justice Barrett’s majority opinion concluded with a somewhat surprisingly detailed analysis of the legislative history of the ICA. Justice Jackson argued that the Senate and House reports accompanying a revision to the ICA in 1980 made it clear that Congress contemplated a private right of action under the part of the statute on which Saba relied. Justice Barrett rejected the legislative history analysis, arguing that “we are governed by laws, not the intentions of legislators.”

For a long time, the Supreme Court has deprecated the use of legislative history. The traditional brief against legislative history is that it is indeterminate because of the many statements, reports, floor debates, and so on that Congress generates when it promulgates a statute. Justice Antonin Scalia described the use of legislative history as the equivalent of “entering a crowded cocktail party and looking over the heads of the guests for one’s friends.” I wonder if we will soon see similar kinds of complaints about the Court’s reliance on other kinds of history, an increasingly common feature of originalism. As Justice Jackson stated, that consternation “is especially odd coming from a Court that eagerly delves into the transcripts of the ratification debates, the Framers’ private correspondence, and the Federalist Papers to ascertain what the framers would have understood, recognized, and expected.”

The result for activist investors such as Saba in this space is that they may have to rely on fiduciary duty claims under the ICA or on state law if they want to use the courts to impose discipline on fund managers whom they believe are underperforming.

David Zaring is the Elizabeth F. Putzel Professor at the University of Pennsylvania Wharton School.