Menendez Calls on SEC to Crack Down on Abusive Trading

U.S. Senator Bob Menendez today asked Securities and Exchange Commissioner (SEC) Mary Jo White today to investigate a new investment scheme designed to manipulate stock prices of bio-tech and other life science, research, and innovation-driven businesses, to determine if the practice violates federal securities laws.

“When an hedge fund manager trolls the patent register for life science innovators whose breakthrough work is dependent on their patents, bets against their stock, and then rigs the game to sink that stock, it’s insider trading,” said Sen. Menendez. “These abusive tactics aim to make a quick buck at the expense of the businesses spearheading life-saving innovation, as well as legitimate investors, pension assets, and individual retirement funds that don’t have access to the same information.”

In a letter to SEC Commissioner White, Menendez explained how certain investment firms are shorting the stocks of patent-dependent life sciences companies and then using new patent litigation procedures to challenge their patents and drive down the companies’ stock prices. This stock manipulation is devastating to the kinds of small, bio-tech companies developing the next generation of medicines, and it puts legitimate investors who lacked such inside knowledge at a significant disadvantage.

He wrote:

“These managers take a short position in the securities of particularly patent-dependent life sciences companies and then file IPR proceedings against these companies’ key patents. The first company targeted by this behavior, a small biopharmaceutical company that patented a treatment to help improve multiple sclerosis patients’ mobility, lost 9.7 percent and 4.8 percent of its share value in the immediate aftermath of two such filings.[1] I ask whether this strategy is permissible under current SEC interpretations of federal securities laws, including insider trading and anti-manipulation provisions, and whether additional legislation is needed to curb potential abuse.”

The Patent & Trademark Office’s Inter Partes Review (IPR) process, created as part of the 2011 America Invents Act, restructured patent litigation and the forum has gained a reputation as hostile to patent holders.

The full letter follows.

June 3, 2015

The Honorable Mary Jo White
Chair, United States Securities and Exchange Commission
100 F Street, NE
Washington DC 20549

Dear Chair White:

I write to express concern with a recent investment strategy being used by some securities market participants. Certain investment firms have begun using newly created patent proceedings against companies shortly after taking a short position in the companies’ securities. I ask whether this strategy is permissible under current SEC interpretations of federal securities laws, including insider trading and anti-manipulation provisions, and whether additional legislation is needed to curb potential abuse.

As you may know, in 2011 Congress passed the America Invents Act to streamline and modernize our nation’s patent system. As part of this legislation, Congress created a new post-grant proceeding within the U.S. Patent and Trademark Office under the Patent Trial and Appeal Board. This new Inter Partes Review (IPR) hears challenges on select patentability issues using a streamlined version of patent litigation. Due to the differences in claim construction and evidentiary standards, IPR proceedings have become a far more favorable venue than parallel district court proceedings to strike down a patent. A review by the University of Chicago Law Review found that more than 77 percent of final IPR proceedings end with instituted claims being invalidated or disclaimed, much higher than in traditional district court proceedings.[3]

In a troubling development, some investment managers have announced their intention to use these proceedings as part of a wider investment strategy. These managers take a short position in the securities of particularly patent-dependent life sciences companies and then file IPR proceedings against these companies’ key patents. The first company targeted by this behavior, a small biopharmaceutical company that patented a treatment to help improve multiple sclerosis patients’ mobility, lost 9.7 percent and 4.8 percent of its share value in the immediate aftermath of two such filings.[4] At least five other biopharmaceutical companies have been targeted using the same strategy in the past two months, and according to public comments, one hedge fund plans to use similar tactics against at least 15 life science companies.[5]

While IPR proceedings were designed to provide an alternative dispute forum, I am concerned by these reports. Such conduct can have negative consequences for targeted companies and their shareholders, and it raises concerns of market manipulation and abuse. While Congress may consider patent litigation reforms, I believe it is also important to address the capital markets issues raised. Therefore I am requesting the SEC’s view as to its authority to address such conduct, whether such conduct is permissible under current law, and whether you believe that the SEC needs additional authority to prevent such abuses.

Thank you for your prompt consideration of this request.

Sincerely,