An eventual ruling by the U.S. Supreme Court in a securities class action case recently accepted for review could have a dramatic effect on the directors and officers liability insurance market and possibly lead to lower rates for policyholders.

Much depends on the high court's decision in Halliburton Co. and David Lesar v. Erica P. John Fund Inc., FKA Archdiocese of Milwaukee Supporting Fund Inc., which deals with the issue of how easily plaintiffs can obtain class action certification in cases in which they allege firms have misrepresented information to their detriment as investors.

Arguments in the case are expected to be heard by the court early next year. And legal experts warn that even if the court rules in Houston-based Halliburton's favor, a nimble plaintiffs bar is likely to quickly adjust, thus diminishing the effect of the ruling. Furthermore, major institutional investors would likely continue to feel obligated to pursue these cases, even if not as a class action, experts say.

The focus of Halliburton is the Supreme Court's 1988 ruling in Basic Inc. v. Max Levinson in which the court endorsed the “fraud-on-the-market presumption theory.”

The theory says plaintiffs in class actions do not have to demonstrate each of the individual class members relied on the company's alleged misrepresentation of information. It is based on the presumption that in an efficient marketplace, a company's share price reacts to all publicly available information about the company. Experts say the Basic ruling has made it much easier for plaintiffs to file class action lawsuits.

Defendants are seeking to overturn an April ruling by the 5th U.S. Circuit Court of Appeals in New Orleans, in a case in which plaintiffs claim Halliburton had understated its asbestos liabilities.

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The fraud-on-the-market presumption theory is “the most powerful engine of civil liability ever established in American law,” according to an amicus brief filed by former U.S. Securities and Exchange Commission members and law professors that urges the high court to “curtail or abandon” the theory. It has “revolutionized private securities litigation and made it the massive multibillion-dollar industry that it is today,'' the brief says.

Its basic premise of market efficiency has come under fire in academic circles, too.

Many legal experts say that based on a related securities ruling issued earlier this year, they are confident at least four Supreme Court justices — Antonin Scalia, Clarence Thomas, Samuel Alito and Anthony Kennedy — will vote to at least modify, if not entirely discard, the fraud-on-the market presumption theory. But it is uncertain how Chief Justice John Roberts will vote on the case.

A high court decision to overturn the Basic rule could lead to lower D&O rates, experts say. “I think it will have a huge impact if the court throws out the fraud-on-the-market presumption,” said John D. Hughes, a partner with law firm Edwards Wildman Palmer L.L.P. in Boston.

“You would expect the insurance market to follow the underlying substantive liability, and so if it dramatically reduces exposure, you'd expect the insurance market to reflect that,” said Jordan Eth, a partner with law firm Morrison & Foerster L.L.P. in San Francisco.

It will have a “dramatic effect on what plaintiffs are going to be able to claim, and that's going it give it a dramatic impact on what damages” D&O insureds will have to pay, said Mary-Pat Cormier, a partner with law firm Bowditch & Dewey L.L.P. in Boston.

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Joseph P. Monteleone, a partner with Tressler L.L.P. in New York, said, “You'll see a lot of companies begin to rethink” their coverage limits.

This will “probably lead to a reduction of the size of some of the (coverage) towers in the market, which means even if rates do not decrease dramatically it could indirectly result in overcapacity in the market” and have a downward effect on rates as more insurers compete for the same business, Mr. Monteleone said.

Experts say the high court also may just modify the fraud-on-the-market presumption, rather than discard it altogether.

“My prediction is that the Supreme Court will modify Basic vs. Levinson” and narrow the market presumption theory's effect, which would lead to fewer cases filed against firms or earlier dismissal of them, said Douglas W. Greene, a shareholder with law firm Lane Powell P.C. in Seattle.

In addition, the court “could substitute a different presumption that allows plaintiff lawyers to continue to pursue” these cases, said Kevin LaCroix, an attorney and executive vice president at RT ProExec, a division of R-T Specialty L.L.C. in Beachwood, Ohio. He said the court also may opt to focus on a second, procedural question before it in the case that concerns what material defendants can use to rebut the presumption theory and when.

If the fraud-on-the-market presumption is rejected, plaintiff firms, for instance, may choose to focus on litigation in which companies are accused of omitting — rather than misrepresenting — information, which does not fall under the market presumption.

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Ann Longmore, New York-based executive vice president of FINEX North America, a unit of Willis North America Inc., said if the fraud-on-the-market presumption theory is rejected by the court, instead of one massive class action, there could be a number of smaller lawsuits led by major institutional investors.

“It would be like the fall of the former Soviet republic,” she said. “There may be an initial drop” in D&O rates, “but I would say no more than 10%.”

Steve Shappell, Denver-based managing director of Aon Risk Solutions' financial services group, said, “There are a lot of institutional investors out there” who “have a lot of pressure on them to fulfill their fiduciary obligations to pursue these claims and to make their investors whole.”