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In suitability cases, financial advisors invariably argue that they cannot be held liable for inducing a plaintiff to purchase an unsuitable investment if the risks associated with the investment were fully disclosed to the plaintiff in a prospectus or other offering document, even when the advisor’s oral representations regarding the investment conflicted with the offering document. This is known as the prospectus defense.

The prospectus defense has been rejected as a categorical rule by numerous courts. See, e.g., Hays v Ellrich, 471 Mass 592, 605 (2015) (“unsophisticated investors who are advised by their fiduciary that an investment is suitable for them are unlikely to read a prospectus with an eye towards testing the wisdom of that advice, especially where they might not understand the information that is relevant to such investment decisions and might not perceive the significance of ‘storm warnings.’”); City State Bank v Dean Witter Reynolds, Inc, 948 SW2d 729, 737 (Tenn App, 1996) (“Viewing the evidence in a light most favorable to plaintiffs, it appears that there is a genuine issue of fact on the question of whether the prospectuses should have placed plaintiffs on inquiry notice of their injury.”); Johnston v CIGNA Corp, 916 P2d 643, 649 (Colo App, 1996) (notwithstanding the fact that plaintiffs received prospectuses warning about investment risks prior to making their investments, the court held that “reasonable investors in plaintiffs’ position may not have discovered facts which otherwise would have placed a reasonable investor on inquiry notice of the circumstances giving rise to the underlying claims.”); Geisenberger v John Hancock Distributors, Inc, 774 F Supp 1045, 1051 (SD Miss, 1991) (notwithstanding investor’s receipt of prospectus, the court found “sufficient evidence to support a finding that Plaintiff justifiably relied on Defendant Jones’s representations”); Luksch v Latham, 675 F Supp 1198, 1199 (ND Cal 1987) (concluding that constructive knowledge of information in a prospectus “should not be legally imputed to investors except in the unusual case”); see also, Moss v Pacquing, 183 Mich App 574, 581-82; 455 NW2d 339 (1990) (where there is a dispute concerning the date when a plaintiff discovered, or reasonably should have discovered, his cause of action, this factual determination is to be made by a jury); Mosesian v Peat, Marwick, Mitchell & Co, 727 F2d 873, 879 (CA 9, 1984) (“The question of what a reasonably prudent investor should have known is particularly suited to a jury determination.”), cert den, 469 US 932 (1984).

Even when an investor signs an acknowledgment stating that the investor has read a prospectus, the prospectus defense is not necessarily determinative of the outcome. See, e.g., Hanley v First Investors Corp, 793 F Supp 719, 722 (ED Tex, 1992) (signed acknowledgment of receipt of prospectus was not sufficient as matter of law to impute knowledge of contents of prospectus to investors for limitations purposes where investors claimed they never received or were offered prospectuses); Connor v First of Michigan Corp., 1990 WL 120644, at *4 (WD Mich, 1990) (declining to give signed disclosure statements and subscription agreements preclusive effect and holding that “whether plaintiffs’ reliance upon any misrepresentation or failure to disclose material information was justifiable” was a question to be decided by the jury).

The prospectus defense is particularly ineffective when the financial advisor involved is a fiduciary. See, e.g., Schmidt v Skolas, 770 F3d 241, 253 (CA 3, 2014) (stating the concept of reasonable diligence is more deferential to the plaintiffs when a fiduciary relationship exists); Graham–Sult v Clainos, 756 F3d 724, 743 (CA 9, 2013) (stating the same degree of diligence is not required when a fiduciary relationship exists); Hope v Klabal, 457 F3d 784, 791 (CA 8, 2006) (stating a delay in discovering wrongdoing may be excusable if a fiduciary relationship exists); Cantor Fitzgerald Inc v Lutnick, 313 F3d 704, 711–12 (CA 2, 2002) (stating the plaintiff’s burden of discovery is reduced when a fiduciary relationship exists).

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