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Investment disclosure

Over the years I've been surprised when the stock market strongly reacted to judicial decisions that seemed like obvious outcomes. This surprises me: I don't have inside information; institutional investors have the ability to process the same public information that I do; the efficient market hypothesis predicts that this public information should already be reflected in the stock price; thus, if I can predict a ruling, the market can, too, and shouldn't treat it as a surprise when, say, the Illinois Supreme Court reverses a multi-billion-dollar judgment against Philip Morris, which bounced over 5% that week in December 2005. But apparently, the trial lawyer strategy to artificially depress stock prices to pressure defendants into settlements has an effect of creating market inefficiencies.

I'm very confident that Wal-Mart v. Dukes will result in a reversal of the class certification in the enormous multi-billion dollar class action against it. But the things that make me confident in that result—the briefs, the tenor of the oral argument, the language in AT&T Mobility v. Concepcion about the importance of protecting the rights of unnamed class members—did not produce movement in the market price of Wal-Mart stock. This leads me to suspect that the market is undervaluing the probability of reversal, and will be surprised when the Supreme Court does reverse later this month.

It's always bothered me when economists make clever predictions but aren't willing to bet on them, Julian Simon a notable exception. Here's a hypothesis that won't take twenty years to resolve; if I'm right, aren't I stupid if I don't make a quick profit on this predicted market inefficiency. So I've put my money where my mouth is: with the dip in stock prices last week, I invested a bit over 10% of my net worth in a leveraged bet that WMT stock will bounce this month when the Supreme Court releases its decision through purchases of July and September out-of-the-money call contracts.

Now I don't recommend anyone follow my lead: there are lots of ways I can be wrong. I might be overestimating the probability of Wal-Mart success in the Court, or otherwise suffering from Dunning-Kruger Effect. I might have been lucky (or suffering from selective memory) in previous cases where I observed stock-price movement in response to decisions I predicted. The market might have already priced this result in years ago, or think that the suit is just a minor nuisance relative to Wal-Mart's giant market value. And we could get hit with a terrorist attack or some other economic shock that hurts the price of Wal-Mart stock entirely unrelated to the Supreme Court decision. Moreover, options are expensive: I'm paying something like a 4-5% transactions cost between brokerage fees and bid-ask spreads, and then there will be the short-term capital gains taxes that reduce any upside. So I could be feeling pretty sheepish come July 1.

But now my interest in this case is a bit more personal than whether the Supreme Court gets class action law right.

Update: Larry Ribstein comments.

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Rafael Mangual
Project Manager,
Legal Policy

Manhattan Institute


Published by the Manhattan Institute

The Manhattan Insitute's Center for Legal Policy.