Since the Securities Act of 1933, Congress has created and carefully maintained a two-track enforcement system that relies on both public enforcement and private enforcement to prevent fraud and protect investors. Congress has at times adjusted the balance of advantage in securities litigation (most notably in the Private Securities Litigation Reform Act), but it has never questioned the basic right of investors to go to court and seek a judicial remedy when they believe they have been defrauded.
Similarly, although Congress has adjusted the procedures for bringing a class action, it has never challenged (and in fact has accepted) the idea that class actions play an important and often critical role in the enforcement of investor rights. When Congress placed sections 11 and 12 at the center of the Securities Act of 1933 (and conferred similar private causes of action in the Securities Exchange Act of 1934), Congress was clearly recognizing that private enforcement is necessary to supplement public enforcement (and the Supreme Court has explicitly agreed on several occasions[1]). The need for such a dual system logically follows from the obvious fact that different administrations might vary significantly in their approach to public enforcement, and thus the availability of private enforcement ensures investors access to court. We believe that this dual system has been effective, has probably lowered the cost of equity capital by creating a deterrent threat, and is ultimately one of the reasons for why U.S. capital markets are the envy of the world.
Against that backdrop, what appears to be happening today is unique, unparalleled, and potentially disastrous. The Trump Administration and the Securities and Exchange Commission (“SEC”) appear to be simultaneously cutting back on both public and private enforcement. On the public enforcement side, the SEC brought significantly fewer enforcement actions in fiscal year 2025 than in fiscal year 2024[2] (and even this comparison understates because several months of fiscal year 2025, which begins for the SEC on October 1, were under the Biden Administration). Thus, we expect an even greater decline in enforcement activity to be likely when the fiscal year 2026 enforcement results become available. In terms of criminal enforcement, the Wall Street Journal reported in a page 1 story in July that “Justice Department Pulls Back On Pursuing Corporate Crime.”[3] This pullback is not a deviation for the Trump Administration, but reflects a basic policy, as President Trump announced in an Executive Order adopted in 2025, that his Administration generally disfavors the use of criminal sanctions to enforce federal regulations.[4] Finally, the roughly 20% reduction in the size of the SEC staff during fiscal year 2025 implies an unavoidable reduction in the SEC’s total enforcement effort.
On the private enforcement side, the SEC quietly announced in September 2025 that it would no longer oppose bylaws or charter amendments requiring investors to use mandatory arbitration (as opposed to suing in court) and that it would cease to preclude such companies from conducting a public offering (at least if adequate disclosure was made about the impact of such a change on investors’ right to sue).[5] This was a day and night change, as the SEC had long opposed mandatory arbitration provisions and had effectively declined to permit companies that added such a provision to conduct a public offering.[6] Currently, arbitration of securities law claims by shareholders in public corporations remains virtually unknown, and we are unaware of any published procedures for how they should be conducted[7]. As explained below, we believe that such a change implies that class actions would be unavailable, and thus that investors with small to moderate claims will be denied any feasible remedy. The consequence of such a change affects all investors because the absence of a class action (or a similar) remedy implies a lesser deterrent threat and a greater likelihood that material misinformation will reach the market.
Once again, this SEC has rushed to adopt a radical change without careful or public consideration of the consequences. Symptomatically, in announcing this change, the SEC neither complied with the “notice and comment” procedures of the Administrative Procedure Act nor discussed or even cited Section 14 of the Securities Act of 1933 (which seeks to bar waivers of investor rights). If the SEC permits private companies to conduct a public offering after adopting such a mandatory arbitration provision, we believe this could do far more to reduce or eliminate shareholder rights than any prior congressional amendment or SEC rule in the 90-plus year history of the SEC. Such a step merits a more careful analysis than it has yet received.
In fairness, we cannot predict how many companies will attempt an IPO after adopting such a provision; nor can we predict the forum or procedures that would be used. To some extent the mandatory use of arbitration may be chilled if corporate managers anticipate an angry response from institutional investors that will either not invest in, or only pay a lower price for, a security issued by a company that adopts mandatory arbitration. Conceivably too, some activist hedge funds may seek to challenge the use of mandatory and even conduct a proxy contest to secure board representation. Nonetheless, we expect that some companies will adopt such a mandatory provision (and these may consist disproportionately of those firms that most recognize that their behavior may attract litigation). Also, the SEC’s new willingness to tolerate such mandatory arbitration provisions may be read by other companies as an SEC invitation to eliminate judicial litigation remedies, and if such a trend starts, a significant number of companies may eventually follow. Sadly, it is hard to imagine a worse incentive to give to some corporate managements than the knowledge that they are safe from litigation.
A. Public Enforcement Versus Private Enforcement
The Trump Administration appears to be both cutting back on public enforcement and inviting public corporations to evade private enforcement. But it is still worth asking if either private or public enforcement can truly substitute for the other. The empirical studies suggest that the answer is that they are neither good nor fully overlapping substitutes, as each has its own special focus. SEC enforcement actions appear to target smaller public companies, particularly those that have experienced financial distress.[8] In contrast, private enforcement seems to focus on larger companies that experience substantial financial damages. The most logical explanation for this difference is that public agencies (such as the SEC) are more subject to political pressure (from investors, Congress, or the media), while private plaintiffs’ attorneys, facing higher risk, respond to economic criteria: Namely, they focus on cases involving the highest potential damages?[9] To note this difference is not to say that either is wrong or misguided in its preference.
Arguably, it may be desirable that frustrated investors can induce the SEC to sue in smaller cases, while private plaintiffs’ attorneys understandably prefer larger cases that can produce recoveries that compensate them with higher fees for the higher risk that they assume. Private and public enforcement appear to be complementary, each having a substantially different focus. Assuming this to be so implies that there are separate injuries when both are cut back.
Many view the plaintiffs’ attorneys who specialize in securities class actions skeptically. Some evidence does suggest that a significant proportion of securities class actions do settle for very low damages—such as, for example, under 2% of the provable losses.[10] But the latest empirical study also seems to show that private enforcement targets disclosure violations “at least as precisely as (if not more so than) SEC enforcement.”[11] If so, the replacement of private enforcement with arbitration tribunals might substantially reduce the deterrent threat associated with contemporary securities litigation (and over time might increase uncertainty over the credibility of financial results for public corporations and raise the cost of equity capital). The existence of such a risk suggests that we should move cautiously.
B. Arbitration Issues
We fully recognize that the Federal Arbitration Act has been broadly recognized and enforced by the Supreme Court,[12] but we also must observe that, in cases involving securities litigation, the Supreme Court has been more guarded and, for example, only approved arbitration in cases against broker dealers where the arbitration procedure was subject to the supervision of a securities regulation organization (“SRO”), which was in turn supervised by the SEC.[13] Possibly, this reluctance to rule as broadly in the case of securities arbitration as in the case of ordinary commercial arbitration is attributable to the anti-waiver provision in Section 14 of the Securities Act of 1933, which is discussed later.
What is abundantly clear to us, however, is that most arbitration systems do not permit class actions (or at least cannot easily accommodate them), and in the absence of class actions, smaller and even medium-size investors are likely to lack any feasible remedy. Nor is there any template or accepted model for how an arbitration system handling securities litigation would permit smaller claimants to aggregate their claims and employ a common lawyer.
In this regard, the Mandatory Arbitration Release fails to acknowledge that the absence of any class action-like procedure denies smaller investors the ability to assert their claims effectively and thereby reduces the deterrent threat of the substantive causes of action in the federal securities laws. We do not assert that it is impossible to incorporate some means of collective representation within an arbitration system, but the failure to make any such effort (or even to acknowledge the problem) implies either a failure of analysis by the SEC or a willingness to sacrifice the interests of the average public investor. We submit that the SEC needs to correct this error before accelerating the registration statement of any issuer with such a mandatory arbitration clause. Realistically, we have little doubt that corporate managements will elect to use arbitration systems that do not permit any class action-like substitute, because they know that they will frequently be the targets of securities litigation. One cannot expect potential defendants to design a system that is fair to potential plaintiffs.
In our view, a minimally adequate arbitration system for securities litigation must be based on SEC rules (or the rules of an SRO subject to the SEC) that define: (1) how smaller investors (or all investors) can aggregate their claims and secure a common counsel; (2) how plaintiffs’ attorney fees will be awarded if the action is successful (and expressly approve a contingent fee system); (3) how the arbitrator or arbitrators will be selected (and grant some rights to the parties to object); and (4) what limitations will exist on the corporate defendant being able to appoint a long-term arbitrator who may be insufficiently independent of the defendants. These conflict-of-interest problems are not simple and need to be addressed before the SEC broadly announces that it will accept mandatory arbitration amendments or bylaws. We note here that Congress in the PSLRA designed an intelligent system that has seemingly worked well to appoint a highly qualified and independent “lead plaintiff.”[14] In the case of arbitration, both plaintiff counsel and the arbitrators must be subject to rules that assure their independence and competence; this suggests that a permanent or long-term arbitrator is undesirable because it may become economically dependent on the corporation appointing it.
C. Section 14 of the Securities Act of 1933
Section 14 of the Securities Act provides that:
Any condition stipulation or provision binding any person acquiring any security to waive compliance with any provision of this title or of the rules and regulations of the Commission shall be void.
Although the scope of this anti-waiver provision can be reasonably debated, it can be read to bar bylaws or charter provisions that require shareholders to waive their rights to sue in federal court under any of the private causes of action under the federal securities laws. Because this is a policy memorandum rather than a brief, we will not here discuss what is the best reading of Section 14, but it is surprising to us that the Mandatory Arbitration Release did not even mention this provision. That suggests some haste on the part of those preparing that release.
Moreover, we further note that the Dodd-Frank Act recently added Section 15(o) to the Exchange Act, which expressly gave the Commission rule-making authority to restrict, prohibit, or impose conditions or limitations on the use of agreements requiring mandatory arbitration of securities disputes, at least “if it finds that such prohibition, imposition of conditions, or limitations are in the public interest and for the protection of investors.” This broad standard clearly suggests Congress intended that the SEC monitor the use of mandatory arbitration in order to ensure fairness to public investors. The SEC has not yet taken any step to realize that goal (or even to study it in detail). Thus, we suggest that more work needs to be done before the SEC acts to approve actual registration statements that contain mandatory arbitration clauses.
D. Conclusion
A considerable challenge faces the SEC: How can some class action or similar device be built into an arbitration system? This is a complex problem, but the SEC to this point has not even acknowledged its existence. Unfortunately, the Commission appears so far to have swept this problem under the rug, and that is unworthy of the SEC when the interests of retail investors are very much at stake.
ENDNOTES
[1] For a recent such statement by the Supreme Court, see Tellabs, Inc. v. Makor Issues & Rights, Ltd., 551 U.S. 308, at 314 n4 (“Nothing in the [PSLRA]…casts doubt on the conclusion that ‘private securities litigation [i]s an indispensable tool with which defrauded investors can recover their losses’ – a matter crucial to the integrity of domestic capital markets”). Nor was Tellabs a deviation from prior decisions, which go back at least to J.I. Case v. Borak, 377 U.S. 426 (1964) (recognizing the need for private enforcement to supplement public enforcement, which otherwise might be inundated with more cases than it could handle).
[2] The SEC filed 456 enforcement actions in fiscal year 2025, as compared with 583 enforcement actions in fiscal year 2024 and 784 in fiscal year 2023. But even this disparity understates, because the SEC’s fiscal year commences on October 1, and thus the results for fiscal year 2025 include the period from October 1, 2024 to January 19, 2025 when President Trump was inaugurated. More than half of the SEC’s 456 enforcement actions filed in fiscal year 2025 were filed during the three and one half months that President Biden remained in office, which implies a steeper drop during the first eight and one half months of the Trump Administration. During fiscal year 2025, the SEC also reported closing 1,095 investigations without bringing an enforcement action. See William C. McCaughey, “Key takeaways from the SEC Division of Enforcement’s FY 2025 Results,” https://www.foley.com/insightspublications/2026/05/key-takeaways-from-the-SEC-division-of-enforcement’s-FY2025-results.
[3] Dave Michaels and Sadie Gurman, “Justice Department Pulls Back On Pursuing Corporate Crime,” The Wall Street Journal, July 20, 2026 at page 1 (reporting that “the Trump Administration has moved sharply away from charging companies over the wrongdoing of employees, recently closing a string of criminal investigations with lenient resolutions or no charges at all”).
[4] See Executive Order 14294, “Fighting Overcriminalization In Federal Regulation”, May 9, 2025, 90 FR 20262. The order does not bar enforcement when the defense is a knowing and willful one, but it generally states that criminal enforcement is disfavored.
[5] “Acceleration of Effectiveness of Registration Statement of Issuers With Certain Mandatory Arbitration Provisions,” Sec. Act Rel. No. 11389 (September 17, 2025) (hereinafter, “the Mandatory Arbitration Release”).
[6] Technically the SEC only precluded “acceleration” of the registration statement by an issuer having such a mandatory provision. Although end runs around this denial of acceleration were possible, issuers do not appear to have availed themselves of these possible options, possibly because they did not wish to challenge the SEC’s policy during the sensitive period of their IPO.
[7] We are aware that FINRA is currently engaged in a project to “modernize” its rules for arbitration of disputes between customers and their brokers. See FINRA Regulatory Notice 26-06 (March 02, 2026). However, this notice does not address the topic of class actions or similar procedures.
[8] See James D. Cox and Randall S. Thomas, SEC Enforcement Heuristics, 5 Duke L. J. 737 (2003).
[9] See Stephen J. Choi and Adm C. Pritchard, SEC Investigations and Securities Class Actions: An Empirical Comparison, 13 J. Empirical Legal Stud., 27, at 27 (2016).
[10] See Cox and Thomas, supra note 7, at 738.See also, James D. Cox, Randall S. Thomas, & Lynn Bai, There Are Plaintiffs and . . . There Are Plaintiffs: An Empirical Analysis of Securities Class Action Settlements, 61 Vand. L. Rev. 355, 380-384 (2008) (variables statistically associated with small settlements include smaller capitalization, shorter class period, and smaller provable damages, all suggesting small settlements arise with one-shot misconduct that is remediated so that the harm does not magnify and persist over a longer time horizon).
[11] See Choi and Pritchard, supra note 8, at 27.
[12] See AT&T Mobility LLC v. Concepcion, 503 U.S. 333 (2011); Am. Express Co. v. Italian Colors Rest.,510 U.S. 223 (2013).
[13] See Shearson/American Express v. McMahon, 482 U.S 220 (1987); Rodriguez de Quijas et al. v Shearson/ American Express, Inc., 490 U.S. 477 (1989).
[14] See Section 21D (a)(3), 18 U.S.C. § 78u-4 (a)(3). (creating a rebuttable presumption that the shareholders with the largest economic stake in the action should serve as the lead plaintiff).
This post comes to us from the Shadow SEC, whose members are professors John Coates at Harvard Law School, John C. Coffee, Jr. at Columbia Law School, James D. Cox at Duke University School of Law, Merritt B. Fox at Columbia Law School, and Joel Seligman at Washington University School of Law.