Many aspects of the Class Action Fairness Act (CAFA), which expanded federal jurisdiction over class actions, have been litigated heavily since its enactment in 2005. But CAFA's securities law carve-out, relatively speaking, is not one of them. This carve-out, codified at 28 U.S.C. § 1332(d)(9), excludes the following types of claims from CAFA's reach:

(1) Claims concerning a "covered security" as defined in federal securities laws,

(2) Claims relating to the "internal affairs or governance" of a business enterprise, and

(3) Claims relating to "the rights, duties (including fiduciary duties), and obligations relating to or created by or pursuant to any security," where "security" is defined in the Securities Act of 1933.

In a case of first impression, the Second Circuit addressed whether this third exception applies to a state consumer fraud claim. See Estate of Barbara Pew v. Cardarelli, No. 06-5703-mv (2d Cir. May 13, 2008). The court, over a spirited dissent, held that the consumer fraud claim fell outside the carve-out and, thus, could be removed to federal court under CAFA.

Briefly, plaintiffs filed a consumer fraud claim in New York state court, alleging that officers of the defendant agricultural cooperative, and its auditor, fraudulently marketed securities issued by the cooperative by failing to disclose its insolvency. Plaintiffs sought to represent a class of purchasers of these securities. Their first complaint, which raised claims under federal securities laws and the New York consumer fraud act, was filed in state court but dismissed after removal to federal court. Their second complaint, also filed in state court, raised only consumer fraud claims. Defendants again removed. Plaintiffs moved to remand, arguing that the third exception in the CAFA securities law carve-out applied and, thus, the federal courts lacked jurisdiction. The federal district court agreed and remanded to state court.

The Second Circuit reversed. The key issue was whether plaintiffs' claims "related to" their rights as holders of the securities. The court held that the meaning and scope of "related to" was ambiguous, but should be interpreted to promote CAFA's goal of "provid[ing] a federal forum for securities cases that have national impact, without impairing the ability of state courts to decide cases of chiefly local import or cases that concern traditional state regulation of the state's corporate creatures." "Related to," therefore, could not mean any claim having anything to do with a security but, instead, only claims affecting the plaintiffs' rights as holders of the securities, i.e., claims "grounded in the terms of the security itself." The court provided some examples of claims that would "relate to" a security under this construction: "claims that might arise where the interest rate was pegged to a rate set by a bank that later merges into another bank, or where a bond series is discontinued, or where a failure to negotiate replacement credit results in a default on principal." By contrast, plaintiffs raised only fraudulent marketing claims—where the fraud was the issuer's undisclosed insolvency—that did not affect their rights as holders. The third exception, therefore, did not apply, and the case was within CAFA's scope.

This is the first circuit-court decision to address this aspect of CAFA's securities law carve-out, but it will not be the last—as defendants, now with authority from a court that is expert in securities matters, vigorously attempt to defeat plaintiffs' efforts to keep certain securities-related claims in state court.