Ratings agency DBRS has confirmed all ratings of State Street, including the company’s Issuer & Senior Debt rating of AA (low) and the Deposits & Senior Debt rating of State Street Bank and Trust Company of AA.
The confirmation is based on State Street’s position as top-tier global asset servicer and custodian with $21 trillion of assets under custody or administration as at Sept. 30 2011, up 6% from the third quarter of 2010, and $1.88 trillion in assets under management, down 4% from Q3 2010, said DBRS in a ratings report. DBRS also noted that the Q2 2010 acquisitions of Intesa Sanpaolos Securities Services and the Mourant International Finance Administration businesses have added significant assets under custody and revenues. State Street’s low operating risk profile and strong capitalization (Tier 1 common capital ratio was estimated at 11.7% at Q3 2011), placing it well for Basel III compliance, were other “strengths” influencing the ratings confirmation.
DBRS sees State Street’s ability to mitigate reputational risks while managing operational and legal risks, growing revenue and income in a low interest rate environment and managing expense levels as key challenges influencing the ratings confirmation.
Specifically, DBRS’s ratings rationale notes that State Street has been an industry consolidator acquiring asset managers, security servicers and technology companies over the past few years to enhance its franchise strength. Similar to other trust banks, the company is also becoming increasingly global in nature, with non-U.S. revenues currently at 43% of total revenues and 29% of assets non-U.S., said DBRS. “This is a logical strategy given DBRSs expectation of faster growth in the non-U.S. segment in the coming years given the relative maturity of the U.S. market. The Company has also continued to win new business adding $825 billion of assets to be serviced and $399 billion in assets to be managed in the first nine months of 2011. These strengths combined with State Streets sustainable operating performance and business momentum underpins its ratings level.”
While the difficult operating environment featuring volatile capital markets, increased litigation and lowinterest rates is pressuring revenues and earnings, DBRS believes the underlying earnings and sound business model to be consistent with a stable trend. Positively, 2011 year-to-date adjusted revenues have been fairly stable in the $2.4 billion quarterly range, said DBRS. “Nonetheless, high expense levels (including one-time project expenses) have been weighing on IBPT (income before provisions and taxes) and net income has been also been negatively impacted by security losses. While DBRS expects the revenue constraints to continue in the near term, it is comfortable with the companys IBPT, revenue and earning streams.”
In order to achieve of its goal of delivering positive operating leverage, State Street has been working on abusiness operations and IT transformation project since November 2010 to become more efficient. DBRS views the project positively with the project estimated to deliver $600 million in annual pre-tax run-rateexpense savings by 2015 ($80 million, or 13%, in 2011 and $390 million, or 65%, in 2013) if successfully implemented, at a cost of between $400 and $450 million. As a result, DBRS believes that while the company clearly does have some revenue and expense challenges, it has demonstrated a consistent ability to deal with those challenges within the context of its earnings generation abilities.
Within its asset management, securities lending, and other businesses, State Street is exposed to operational, reputational and legal risk or possible business loss from customers in relation to the Companys roles as agent, custodian or lender, said DBRS. “These risks have been elevated for the Company by the impact of the financial crisis and the associated market turmoil on investors and clients. Most recently, this has taken the form of lawsuits regarding foreign exchange transaction fees.
DBRS added: “State Street has made strides in addressing market volatility and improving its risk management practices, yet these issues may result in unexpected expenses and add a degree of earnings volatility to State Streets financial performance. DBRS expects that additional charges from litigation, settlements and the reputational need to provide support to its own funds and clients will continue to play a role in earnings volatility and may lead to short-term underperformance.”
(JDC)