First sell short, then sue

“There is some evidence that plaintiffs and their attorneys are profitably short-selling the stock of the companies they intend to sue,” writes Moin Yahya of the University of Alberta law faculty in a new paper called “The Legal Status of ‘Dump & Sue'” (SSRN, Mar. 9). Strategic litigants or their attorneys thus stand to capture two distinct strands of revenue: one from the eventual settlement of the suit, the other from the profits they capture after their adversary’s stock declines on the announcement of the suit. (Alternatively, some lawsuits might be rendered profitable by the gains from short-selling even though they never win settlements at all.) Does insider-trading law as it currently stands prohibit such goings-on? Not necessarily, since litigants and their lawyers don’t ordinarily count as “insiders” in conventional terms. But given securities regulators’ goal of upholding what they call market integrity, it’s hard to see why they would not want to prohibit the sleazy practice. For a dissenting view, see Larry Ribstein (Apr. 11).


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