道富銀行 (STT) 2011 Q4 法說會逐字稿

Good morning and welcome to State Street Corporation's fourth-quarter and full-year 2011 conference call and webcast.

Today's discussion is being broadcast live on State Street's website at www.StateStreet.com/stockholder.

This call is also being recorded for replay.

State Street's call is copyrighted.

All rights are reserved.

The call may not be recorded for rebroadcast or distribution in whole or in part without expressed written authorization from State Street, and the only authorized broadcast of this call is housed on State Street's website.

At the end of the day's presentation we'll conduct a question and answer session.

(Operator Instructions).

Now, I'd like to introduce Kelley MacDonald, Senior Vice President of Investor Relations at State Street.

Good morning.

Before Jay Hooley, our Chairman and Chief Executive Officer and Ed Resch, our Chief Financial Officer, begin their remarks, I'd like to remind you that during this call, we will be making forward-looking statements.

Actual results may differ materially from those indicated by these forward-looking statements as a result of various important factors, including those discussed in State Street's 2010 Annual Report on Form 10-K and its subsequent filings with the SEC.

We encourage you to review those filings, including the sections on risk factors concerning any forward-looking statements we make today.

Any such forward-looking statements speak only as of Tuesday, January 18, 2012, and the Corporation does not undertake to revise such forward-looking statements to reflect events or changes after today.

I'd also like to remind you that you can find a slide presentation regarding the Corporation's investment portfolio as well as our fourth-quarter 2011 earnings news release, which includes reconciliations of non-GAAP measures referred to on this webcast in the Investor Relations portion of our website.

Now I'll turn the call over to Jay.

Thanks, Kelley, and good morning.

Our full-year 2011 results, which include double digit growth in our total fee revenue and earnings per share as compared to 2010, reflect the strength of our franchise in the face of volatile equity markets and continued uncertainty in Europe.

In addition to remarks about the 2011 and fourth-quarter results, this morning I'll make some comments about the economic outlook; our continuing success generating new business in our core asset servicing and asset management businesses; the ongoing progress of our business ops and information-technology transformation program; as well as our plans for leveraging our strong capital position.

As we began 2010, like many others, anticipated the first half of the year would be challenging and that the US and European economies would improve in the second half, increasing our prospects for growth.

After a strong first half, Europe weakened in mid-May and a major rating agency downgraded the credit rating of the US, resulting in a very challenging and extremely volatile markets in the second half with the US market recovering at the very end of the year.

This second-half environment significantly affected investor confidence and we saw a broad-based de-risking of our clients, which put pressure on our servicing and management fee revenue.

Compared to the third quarter, our fourth-quarter revenue for trading services also declined due to the weak environment in the capital markets.

Based on the weakening global market environment at year end, we accelerated our expense control program.

In particular, our compensation and benefit expenses were reduced by about $145 million or 7%, comparing the second half with the first half of 2011.

Part of this reduction is due to the successful execution of our business operations and information-technology transformation program and the remainder due to incremental actions we took regarding incentive compensation.

We expect this weakness in the capital markets to continue into 2012, and so this morning, we announced measures that will result in a further reduction in the run rate of expenses in our capital-markets-facing businesses.

As part of our annual review of all of our businesses, we also recently announced our withdrawal from the fixed income trading initiative.

This decision reflects a number of factors, including continuing market turmoil and regulatory changes, both in the US and Europe that likely would have required us to increase capital and expenses associated with this initiative.

Despite the challenging environment, we continue to add new business to the core franchise.

In the fourth quarter, we added about $590 billion in new assets to be serviced and had $109 billion in gross new business at State Street Global Advisors.

One notable anticipated departure at SSgA assets was the $41 billion of planned assets -- planned asset sales from accounts we manage for the U.S.

Treasury.

For the full year 2011, of the $1.4 trillion in new service wins, about $560 billion or 40% were from non-US clients.

And of the $109 billion wins in US in SSgA, $39 billion or about 36% were from non-US clients.

Among our large and new mandates was AllianceBernstein for investment manager operations outsourcing for more than $360 billion in assets.

In addition, we also won a mandate from American Century, which awarded us custody, accounting and fund administration for its '40 Act Mutual Funds, totaling about $90 billion in assets.

Also, PIMCO renewed its long-standing relationship with us for investment manager operations outsourcing services for assets totaling approximately $1.3 trillion.

The state of Washington renewed its agreement with us for servicing its securities finance for $75 billion in assets.

SSgA was awarded a mandate to provide fixed income management for EUR82 billion for the BNL-BNP Paribas Employees' pension fund, one of the largest pension funds in Italy.

Regarding the timing of installations, as of December 31, 2011, we had installed $1.1 trillion of the $1.4 trillion in new asset servicing wins this year.

We expect to install the remaining $300 billion in 2012.

In the alternative asset servicing area, demand remains strong.

This quarter we added 38 new mandates in our alternative investment servicing business, and our alternative assets under administration increased from $793 billion as of September 30, 2011, to $816 billion as of December 31, 2011.

At State Street Global Advisors, of the $109 billion in gross new mandates in the fourth quarter, $20 billion is scheduled to be installed in 2012.

We continue to benefit from the concentrated effort to cross sell products between asset servicing and asset management.

Illustrating the power of the franchise, 77 of the top 100 clients of State Street are clients of both investor servicing and SSGA.

Those 77 clients generated 40% of SSGA's total 2011 revenue.

Let me now share our outlook for the global economy.

We expect G7 economies to grow modestly about 1.5% in 2012, similar to the slow growth experienced in 2011.

Additionally, we expect to slow down on emerging market economies, resulting in weak expectations for the capital markets.

All major central banks are on hold or easing, the potential fallout from the European debt crisis remains as a significant risk factor, and the market remains cautious.

Destruction of household wealth, due primarily to a drop in housing prices, as well as the decline in equity valuations, is limiting growth in consumer spending.

Therefore in the US, we expect a very slow but sustainable recovery.

As we indicated when we announced our business operations and information-technology transformation program in November 2010, we expected the expense savings in 2011 would be slight.

However, when the global economy weakened in mid-year, we accelerated our program and our total expense savings in 2011, excluding restructuring costs, were approximately $86 million.

Through this program, we continue to expect to achieve 400 basis point improvement in our operating bases pretax margin compared to 2010 by the end of 2015, all else equal.

In 2012, we expect to add two additional global centers of excellence to balance our global footprint.

The cloud computing infrastructure has been installed and is in production.

We continue to scale this technology as we migrate major systems through 2014.

In 2012, we also expect to have substantially completed the transition to the two strategic partners we announced in mid 2011.

As a result of these activities in 2012, we expect to achieve an annual pretax run rate expense save of $94 million, bringing the anticipated annual pretax run rate expense savings to $180 million compared to the expense rate in 2010, all else equal.

This program is going to substantially transform State Street, both in terms of service to our clients, more rapid development of new products, as well as significant reduction of our expenses.

I also want to update you on our capital position, which remained very strong in the fourth quarter.

We continue to await the capital requirements for globally systemic important financial institutions.

At this time, we expect to know these requirements by the end of 2012, enabling us to evaluate the effect on State Street and on our expectations for return on equity.

In the fourth quarter, we purchased approximately 5.6 million of our common shares, which brought the total shares purchased in 2011 to 16.3 million.

This completed the $675 million program announced in March 2011.

We also announced a quarterly dividend of $0.18 per share in the fourth quarter.

We've submitted this year's capital plan to the Federal Reserve and expect to hear back in March.

And we continue to prioritize increasing return of capital to shareholders through dividends and our share repurchase program.

Due to the strength of our capital position, we were able to take these actions while retaining the flexibility to respond to future acquisition opportunities, should they become available.

Regarding our recent acquisitions in 2011, we added two small acquisitions, both of which strengthened our product capability -- Complementa in Switzerland, which provides performance measurement and analytics to asset managers and banks, pension funds and insurance companies, primarily in Switzerland and Germany; and Pulse Trading in the United States, which enhances our electronic trading capabilities by adding an equity crossing platform that we can cross-sell to our client base.

I'll now turn the call over to Ed, who will discuss our results for the fourth quarter, the performance of our investment portfolio, and provide additional details on our capital position.

Then I'll return to provide some final remarks before opening the call to your questions.

Ed.

Thank you, Jay, and good morning, everyone.

As Jay said, this morning, I'll cover three areas -- first, the results of the fourth quarter; second, I'll summarize the performance of and outlook for the investment portfolio, as well as worldwide interest rates and the impact on our net interest margin; and finally, I'll review our strong capital position.

I'll present some of the more significant results, first comparing 2011 with 2010, and then comparing the fourth quarter to the third quarter of 2011.

And this morning, all of my comments will be based on our operating basis results as defined in today's earnings news release.

First, comparing full-year 2011 with 2010, the revenue from almost all of our businesses increased.

Our servicing fee revenue increased by 11% due primarily to net new business and the impact of market appreciation as well as acquisitions.

Our asset management fee revenue increased 11%, due primarily to stronger equity markets and the impact of an acquisition.

Regarding trading services and securities finance, foreign exchange revenue increased 14%; brokerage and other fee revenue improved 6%; and securities finance was up 19%, due primarily to improved spreads.

Net interest revenue increased 6%, due primarily to an increase in lower-cost deposits, offset partially by lower yields.

Our net interest margin averaged 152 basis points in 2011 or 160 basis points, excluding the impact of excess deposits in the second half of 2011.

Comparing the results of the fourth quarter 2011 with the third quarter, across both our asset servicing and asset management businesses, we have seen investors become more risk-averse, given economic uncertainty in Europe and the continued volatility in equity markets.

Investors are shifting from global and emerging market equity strategies into more conservative, lower-risk asset classes, such as money market funds and insured deposits.

Servicing fee revenue declined 4% to $1.05 billion due to mix shifts and negative flows as a result of investors risk-averse behavior, the impact of the strong dollar and lower valuations in the European equity markets.

To put this decline in context, the daily average evaluation of the S&P 500 was flat compared to the third quarter and the MSCI EAFE was down about 7%.

The VIX, which measures the change in equity market volatility, was near its historical average at 23 to close the quarter at 23.40 after starting the quarter at an elevated level of 43.

Similarly, the three-month US dollar LIBOR rate closed the quarter at about 58 basis points, having begun the quarter at about 37 basis points and averaging about 48 basis points in the quarter.

Investors reacted to these worldwide economic events by adjusting their portfolios, thereby affecting the mix of assets under custody, as well as Investment Management flows.

Investors transitioned from higher-risk strategies, such as those in international and emerging markets to cash and fixed income.

In either case, they remained in our assets under administration, but the revenue was lower.

Investment management fee revenue declined by 12% to $202 million, due primarily to negative flows and active equities, fixed income and cash.

The latter was the result of lower demand in securities finance.

The average of the three month-end valuations as measured by the S&P 500 was up about 3% compared to the third quarter and the MSCI EAFE was down 5%.

In total in the fourth quarter, we experienced $89 billion of negative net new business, which was comprised principally of the $51 billion decline in cash assets and the planned $41 billion redemption by the US Department of the Treasury.

ETFs, however, had one of their best quarters, adding about $12 billion in flows.

While cash assets under management, excluding securities lending cash in the fourth quarter, was about the same as the third quarter.

The revenue decline was affected by a mix shift from prime money market funds into US government funds, which reduced revenue.

As a result of this shift, we expect our money market fund fee waivers to increase from about $5 million per quarter to about $10 million per quarter should this trend be maintained.

Trading services revenue declined 18% to $273 million.

Foreign exchange revenue declined 26% to $150 million due to weaker volumes and lower volatility.

In foreign exchange for the first time, we are experiencing a decline in indirect foreign exchange products as this area of the business has come under increased scrutiny.

Some clients have chosen to move to electronic exchange which we offer through our Street FX product or through Currenex, or have decided to transact using our direct services.

We have several different ways through which a client may choose to transact foreign exchange with us, and so while the type of transaction may be changing, the clients find one of our other services to be of value to them.

Brokerage and other fees declined 5% to $123 million, primarily due to weaker transition management revenue.

Securities finance revenue increased 6% to $90 million based on an improvement in spreads.

In the quarter, the three-month LIBOR to fed funds effective spread was 40.6%.

Securities on loan averaged $340 billion for the fourth quarter of 2011, down from $368 billion for the third quarter of 2011 and from $368 billion for the fourth quarter of 2010, both declines due to reduced demand.

Average lendable assets for the fourth quarter of 2011 were about $2.23 trillion, down 2% from $2.28 trillion, the same level in the third quarter of 2011 and the fourth quarter of 2010.

As of December 31, 2011, the duration of the securities finance book was approximately 17 days, up from 12 days in the third quarter of 2011 and flat with 17 days in the fourth quarter of 2010.

Processing and other fee revenue declined 50% to $45 million, due primarily to the fair value adjustment relative to the positions in the fixed income trading initiative that we are exiting.

The large decline from the prior quarter was also the result of $22 million of gains in the third quarter related to real estate and certain leases.

Net interest revenue of $577 million increased about 2% in the fourth quarter of 2011 compared with the third quarter of 2011, primarily due to an increase in earning assets driven by an increase in lower-cost client deposits, offset partially by lower investment yields.

We continue to benefit from clients leaving additional deposits with us in the fourth quarter.

In the fourth quarter, clients left on average about $23 billion of excess deposits compared to $15 billion in the third quarter.

The additional deposits contributed to slightly higher net interest revenue in the fourth quarter.

An average of $19 billion and increased client deposits was left with State Street in the second half of 2011 compared to the first half.

Including the excess deposits left with State Street in the fourth quarter, operating basis net interest margin in the fourth quarter of 2011 was 140 basis points.

Excluding those deposits, net interest margin would have been about 158 basis points compared to 157 basis points in the third quarter.

This increase in net interest margin from the third quarter was primarily due to the improved yields on the fixed income securities purchased in the fourth quarter.

We maintained tight controls on expenses.

Our compensation and benefits expenses decreased 10% or $93 million from the third quarter of 2011 to approximately $872 million, due primarily to lower salaries and employee benefits, achieved partially from the acceleration of the business operations and IT transformation program, as well as reductions in incentive compensation.

Compensation and benefits expenses included about $13.5 million in nonrecurring costs related to the implementation of this program with another $13.8 million report in several other expense lines on the income statement.

In the fourth quarter of 2011, compensation and benefits expenses were approximately 38.1% of total revenue, down from 40.0% in the third quarter, which was down from 40.8% in the second quarter, which was down again from 41.8% in the first quarter.

For the year ended December 31, 2011, our full-year ratio is 40.2%.

Other expenses were $274 million, up about 6% compared to the third quarter, primarily due to increased fees for professional services, including nonrecurring costs incurred in executing the business operations and information technology transformation program.

As Jay said, our business operations and information technology transformation program is proceeding as planned.

As we said when we announced the program in November of 2010, we expect the run rate of nonrecurring expenses to peak in 2012, averaging about $25 million per quarter, up from an average of about $20 million per quarter in 2011.

The amount of net pretax run rate incremental savings for 2012 is expected to be $94 million, slightly higher than the update we provided on our third-quarter call, due to the acceleration of this program.

Our investment portfolio as of December 31, 2011 increased about $2.7 billion compared to September 30, 2011, to $109.8 billion.

During the fourth quarter, we invested about $12.9 billion in highly-rated securities at an average price of $102.31 with an average yield of 2.34% and a duration of approximately 2.56 years.

This is less than we have invested in the prior three quarters of 2011 because, as we have discussed with you, we invested early in 2011 to capture what we perceive to be good investment opportunities.

The $12.9 billion of purchases was composed of the following securities -- $1.1 billion in U.S.

Treasury securities; $6.3 billion in agency mortgage-backed securities; $3.8 billion in assets-backed securities including about $2.1 billion of foreign RMBS, mostly in the UK; with the remaining $1.7 billion being invested in US securities backed by credit card receivables, student loans, and floating-rate order receivables.

The remainder was invested in smaller amounts in various miscellaneous asset classes.

The aggregate net unrealized after-tax loss in our available for sale and held to maturity portfolios as of December 31, 2011, was $374 million compared to a net unrealized after-tax loss of $259 million as of September 30, 2011, and an improvement of about $130 million from December 31, 2010, when the net unrealized after-tax loss was $504 million.

The deterioration in the net unrealized after-tax position compared to September 30, 2011 was due primarily to a modest widening in spreads.

In our investment portfolio presentation, we have updated the data through quarter end for you to review.

And as of December 31, 2011, our portfolio was 89% AAA or AA rated.

The duration of the investment portfolio was 1.49 years, up from 1.09 years at September 30, 2011, due primarily to purchase of agency mortgage-backed fixed-rate securities.

The duration gap of the entire balance sheet was 0.36 years, up from 0.09 years at September 30, 2011.

This duration is in line with our historical duration gap, which we target to be a maximum of 0.5 a year.

Regarding European assets -- we do not own any sovereign debt from the peripheral countries of Greece, Spain, Portugal, Italy, or Ireland in our investment portfolio.

Of our non-US assets, we hold about $1.2 billion in securities from those peripheral countries, primarily RMBS and all floating rate securities.

About $500 million from Italy; $400 million from Spain; and about $100 million each from Ireland, Greece, and Portugal.

All are performing within expectations and remain current as to principal and interest.

Substantially all are prime mortgages and the mortgages backing these securities all have relatively low loan-to-value ratios.

On page 7 of the investment portfolio presentation, we list all of our non-US investments and show the average rating as well as the asset types we hold.

Our primary non-US holdings are British, Australian, German, Canadian, and Netherlands securities, totaling 93% of the non-US investment portfolio.

At SSgA, our Eurozone exposure in the investment funds is consistent with client mandates.

We hold the non-US fixed income portfolios at their benchmark weightings and our actively managed cash portfolios have minimal exposure to the peripheral countries.

Regarding pre-tax conduit-related accretion, we expect to record a total of about $1.1 billion in interest revenue from January 1, 2012 through the remaining terms of the former securities, including about $140 million in 2012.

These expectations are based on numerous assumptions, including holding the securities to maturity, anticipated prepayment speeds, credit quality, and sales.

As of December 31, 2011, 59% of our investment portfolio was invested in floating-rate securities and 41% in fixed-rate securities.

Now for our outlook on net interest margin -- first of all, let me emphasize that we continue to believe that we should invest through the cycle.

We also intend to invest in highly rated AAA or AA-rated securities, agency mortgage-backed securities, and asset-backed securities.

I'll now review some of the assumptions we used in determining our 2012 outlook for net interest revenue and net interest margin.

We believe that the Federal Reserve will leave interest rates on hold through at least mid 2013 and possibly beyond.

The ECB has cut rates to 100 basis points, and we expect them to hold that level through the end of 2012.

If the ECB rate declines further, we estimate our NIR would decline by approximately $25 million on an annual basis for each 25 basis point reduction.

We believe the Bank of England will hold its base rate at 50 basis points through 2012.

We project a potential reduction of the 25 basis points from that rate by the Bank of England would lower net interest revenue by about $5 million annually in 2012.

With these rate assumptions in mind, should our client deposits return to a more normalized level, then we would expect our average net interest margin for the full year 2012 to be between 145 and 155 basis points.

Should the current level of excess deposits remain on State Street's balance sheet for which we received a low rate of interest, then our net interest margin could be at the lower end of this range.

In the fourth quarter, State Street Corporation's capital ratios under Basel I remained very strong.

As of December 31, 2011, our total capital ratio stood at 20.5%; our tier 1 leverage ratio stood at [7.3%] (corrected by company after the call); our tier 1 capital ratio stood at [18.9%] (corrected by company after the call); our TCE ratio was [7.3%] (corrected by company after the call); and our tier 1 common ratio was [16.9%] (corrected by company after the call).

Based on our understanding of the Basel III regulations and the information published by the Basel committee and the Federal Reserve, we estimate our capital ratios under Basel III as of December 31, 2011, to be total capital, [14.9%] (corrected by company after the call); our tier 1 leverage ratio to be [5.6%] (corrected by company after the call); our tier 1 capital ratio to be [13.3%] (corrected by company after the call); and our tier 1 common ratio to be [12.1%] (corrected by company after the call).

For 2012, we expect the S&P to average about 1328, an increase of 5% above 2011's daily average of 1268 and the EAFE to decline 7.2% to 1494 from 1609 based on our view of little growth and market disruption in this region in 2012.

In conclusion, while the economy in the United States appears to be very slowly repairing, the global economic outlook has continued to be uncertain.

The headwinds created from the low interest-rate environment, new regulatory requirements, increased compliance costs, and the outlook for weak capital markets have led us to focus intensely on growing revenue, executing our business operations of information technology transformation program, and controlling expenses in general in 2012.

Now I'll turn the call over to Jay to conclude our remarks.

Thanks, Ed.

Given the difficult environment during the second half of 2011 and the effect it had on investor confidence, we remain cautious about 2012.

Should be improved US markets we saw at the end of the year and so far this year be sustained, we'd expect investors to re-risk, improving the outlook for growth.

Given our outlook, we intend to continue to exercise expense control and to successfully execute on our business operations in information technology transformation program.

We expect our core business momentum to continue.

Our new business wins in 2011 were strong and our prospect pipeline again looks good going into 2012.

As has been the case for the past decade, our cross-sell revenue has been robust, demonstrating the power of our franchise.

Our capital position remains strong, positioning us well for the new Basel standards, while maintaining flexibility if the right acquisition presents itself and providing the resources to increase our returns to shareholders.

I believe that in 2011 the resilience of our strategy allowed us to achieve strong results and enabled us to achieve a capital position among the highest in our industry.

We intend to apply the same principles to our business in 2012 in what we expect to be a continuing difficult environment.

Before opening up the call to your questions, I remind you that our annual investor and analyst meeting will be held on February 9.

During that meeting we will provide additional comments on our outlook for 2012.

Now Ed and I are happy to entertain your questions.

(Operator Instructions).

Howard Chen, Credit Suisse.

You continue to see great balance sheet growth during the quarter.

Just curious, as the macro environment stays fairly choppy, are you seeing anything unique and interesting about some of these continual frictional or non-frictional inflows?

Well, we saw a continuation of the third quarter into the fourth quarter with actually some increase, Howard.

As I noted, we went from an excess deposit position of $15 billion in Q3 to $23 billion on average in Q4.

We actually, as the year has started, are seeing a bit of a return back to a more normal level in those deposits, but it's only been a short period of time, so hard to extrapolate a trend from that.

But that's where we are, short time into the year so far.

Okay, great; thanks, Ed.

And thanks for all the detail on the NIM outlook.

I guess there is debate that the ECB will cut further ahead of quantitative easing measures.

I'm just curious, from your point of view, is there anything you can and would do to shift around some of the asset liability management, given either that view and what we're seeing in the US in terms of the rise on the short end of the curve?

No, not really.

We feel pretty comfortable where we are, around that 60/40 floating fixed level, Howard.

Again, our investment plan is predicated on the rate forecast I gave you for the year.

So I don't think we're anticipating much of a change from that.

Okay, thanks.

And then my final one is just on capital return and pay out.

Ed, you walked through all the strength of the ratios at the end of the year.

Maybe Jay, I'm just hoping to get your appetite and potential ability to potentially increase that payout ratio in 2012.

Thanks.

Yes, sure, Howard, let me comment on that.

As you know, we have recently submitted our [C CAR] plan.

And as we expressed our capital ratios are strong and getting stronger and we think on a relative basis some of the strongest in the industry.

Based on that, it would be our hope to increase both our dividend payout as well as the level of share buybacks that we had in 2011.

So our hope would be to increase on both fronts.

Many thanks.

And is there a sense of where you would like to take that, Jay, and the upper bounds?

I won't say right now, Howard, just that given the capital that we have we think that increasing both of those is appropriate and we'll see what the regulators' reaction is.

Okay.

Thanks so much.

Ken Usdin, Jefferies.

Two questions for you -- first a follow-on on Howard there.

As part of the C CAR and then your outlook for other uses of capital management, you commented on this last quarter, but just given that you've now submitted, maybe you have a better understanding.

You have an expectation of hoping to get some decent amounts of dividends and buybacks in the C CAR plan.

Can you talk to us about how M&A would be either included within that plan?

Would it be a crowd out to buy back activity or could it be incremental?

And as a part of that then, second part of the question is just then, how is the European landscape continuing to evolve and opportunities that you see out there.

Sure, Ken.

The short answer is we would view it as incremental.

So as you know, the C CAR process really attempts to assess existing capital position and we make judgments about any distributions for 2012.

It doesn't really deal with existing capital levels or ability to take on acquisitions.

So our view is that we should be able to increase the dividend and buyback while leaving sufficient capacity to take on any acquisition within reason.

I've given you, in the past, within the investor services or custody space, we would view most acquisitions to be in the $0.5 billion to $2 billion range.

So based on our assessment, we think we could do all those things.

And Ken, I think the other part of your question was really just the environment?

The other part of the question was just regards to appetite and obviously the European dislocation disruption continues.

Banks are now formally shedding assets.

How do you look at the landscape?

Do you think this is going to be an active year?

Are there going to be opportunities on the table for you guys?

Yes, I do think it will be an active year, I think for all the reasons that you mentioned.

We've got European banks re-capitalizing, continued pressure on capital ratios.

And we've seen I guess some evidence in 2010, not necessarily in the trust and custody space, of European banks -- 2011 shedding assets.

I think that will continue and we remain poised.

So I think the environment is a positive one and we think we're better positioned than anybody.

Okay.

And my second question is for Ed.

Ed, you mentioned this in your prepared remarks about why some of the revenues in core business servicing and management were down because of customer de-risking.

But I just want to try to understand the juxtaposition between new business versus where the market is active versus transaction activity.

So how much of the decline in revenues was really related -- I guess to try to figure out the best way to ask it.

Just the net of all the things was obviously negative, but how much of it was just the transactional activity versus the markets and then the positive of new business?

I'd say, if you're looking for an attribution in terms of, for the quarter, right, sequentially, the stronger dollar and market, attribute about a third of the delta.

And I'd say the other factors which you're calling customer activity, client activities, is the other two-thirds.

And would you say that's the same in both servicing -- that's more for servicing.

Is the same -- and in asset management, it was more just flows?

Much more skewed toward the client activity -- 10 versus 90, something like that.

Okay, got it.

And so is that the type of thing that can reverse pretty quickly, or if this environment stays where it is, that kind of level of activity could stay as low as it was?

I think it is environmental-dependent.

If the environment does reverse we could see a return back to more normal customer flows and levels, but if this environment continues the way it unfolded in Q4, we could see these types of levels being maintained.

Okay.

Thanks for that, Ed; thanks, Jay.

Alex Blostein, Goldman Sachs.

Sorry to go back to the previous question, but -- and it feels like you guys are winning new business and higher fee revenues, and I get that activity levels were a little bit lower, but do you think if we just kind of think about the custody business and the fee rate that you're earning today on a go-forward basis, is that a decent run rate?

And then a similar question for the asset management, it feels like the big runoff you guys had in the treasury win was extremely low fee, so it feels like the fact that you had some outflows there should actually benefit the fee rate, not drive it lower.

So do you think the fourth quarter is a good run rate on the fee rate basis for both of those businesses?

You know, tough to prognosticate into the future.

Our market assumptions for next year are on average, as I said, the S&P up about 5%.

So I would think there could be some uplift if that actually materializes, Alex.

We are a little more cautious on EAFE, as I noted, in terms of our market assumption.

I think rates are pretty well -- certainly in the US, a given.

I think most people accept the fact that the Fed is going to stay at 25% for a protracted period of time.

So assuming those environmental factors play out, I would not feel comfortable saying that the fourth quarter is a run rate to extrapolate into the future.

Certainly, we plan on having the business grow, and that's always the way we approach a year going in from a budget standpoint.

So it is, though, partly dependent on the markets, the environment, and how customers feel about risking or re-risking or continuing to be in a relatively de-risked position.

Got it.

Okay, and the next question, so speaking of budgeting -- expenses, it feels like this is probably a decent run rate on a quarterly basis.

So, Ed, when you're thinking about next year, off of this kind of like a $1.6 billion per quarter run rate, what do you think is a normal growth in your core expenses?

And then should we just think about the incremental $90 million-plus of savings that you have highlighted just on top of that from an overall dollar perspective for next year?

Well, again, I don't want to predict quarterly levels in terms of expenses, but I think that the way to think about it as broadly as you said, you know, that we have an incremental contribution coming from the ops and IT transformation, which needs to be factored into the run rate.

Obviously, the expense run rate is, in large part, calibrated based on the revenue performance of the company.

And we're cognizant of that as we think about both our budget and any adjustments we need to make either way, up or down.

The other thing that I think you need to factor into your thinking is that we still see some headwinds from a regulatory, a cost, and a compliance standpoint.

That number we estimate to be around $30 million annual next year, so that's going up from a $50 million this year as we continue to work through the new regulatory landscape, figure out the effects of Dodd-Frank, etc.

So, and the other point that I mentioned in my comments, Alex, is that we expect the costs associated with implementing the ops and IT program this year to increase next year, so that would be an increment to the run rate.

They will peak in 2012 at about $25 million a quarter.

So there's a couple of moving pieces on the expense side, but I would say if you look at all of those things and then try to calibrate them to how the revenue environment is shaping up, that should give you an idea of what we're probably going to do on the expense side.

Got it.

So to put it in other words, $90 million in savings, but the offset is reg of $30 million and maybe a little bit more in the implementation, and maybe net savings of, I don't know, call it $50 million to $60 million, and then the core will grow with the revenue?

Yes, I think that's generally okay.

But again, you have to look at the fourth quarter.

We moved incentive compensation down, reflective of results.

If the opposite is true, we may move some of that up.

If you look at the first quarter, we have a bump in comp in the first quarter, based on the accounting associated with our bonuses for the early retirement eligible people.

So it's a little tough to just take a quarterly average and run it out through 2012.

There's some peaks and valleys, potentially.

Got you, thanks.

And then my last one just on your comments regarding foreign exchange, I think this is the first time we heard of [Charles] Bank kind of talk specifically about some clients deciding to shift into other areas.

You alluded -- so some of the decline this quarter, 26%, was partially driven by the shift in, call it, client mix.

How much more of a drag do you think this could be for you guys going forward given how much money you're currently generating from the indirect business?

I would say it's hard to predict.

I would say, though, that for two years now this has been the subject of discussion and debate.

And customers have talked to us about the various ways of executing foreign exchange.

And what you saw this quarter, although it was not the major driver, was more the decline in volumes and volatility.

But we saw some evidence of clients moving to different options.

And as I've said repeatedly, we have all the options that are necessary, so no customers are leaving.

And I'd expect over time, you'll continue to see some movement in that direction.

What we're planning to counteract that is we're looking to drive more volume in the foreign exchange business, not only with our existing customers but new customers as well.

So where that all levels out it's hard to say but not surprising that we're seeing some movement in the direction of alternative execution platforms.

Understood.

Thank you.

Brian Bedell, ISI Group.

Just on the lines of the FX question before, what's the proportion of FX revenue from the indirect channel in the quarter?

Ed is going to look that up.

And then while he's looking on that, just another housekeeping on the run rate savings, the $180 million, the way we should be thinking about that is $180 million lower expenses in the fourth quarter of 2012 versus the fourth quarter of 2010; is that correct?

Yes, that would be right, Brian.

So full effect run rate at end of year.

Yes, okay.

Brian, the answer to your question is about 50-50.

50-50, okay; that's up from last quarter.

Okay, and then on the excess deposits, Ed, in your comments on the net interest margin, did you include any more aggressive investment of the FX deposits?

I guess if they stick around a little bit longer, is there a possibility you could invest that in longer duration, or do your assumptions basically assume continued very short investment in those excess deposits?

Yes, it assumes more of the latter in terms of keeping any excess deposits we have at central banks.

We are though, assuming more of a normal level of excess deposits, if I could say that, and probably about half the level of the fourth quarter.

We averaged $23 billion in the fourth quarter.

Our planning for 2012 is about half of that, so we are at $11 billion on average.

So it's more driven by that.

And is there any chance you could invest it in longer duration or would you definitely continue to keep it short?

I think we're of the view to keep it short.

I mean it's pretty transitory for the most part.

I mean just to put that in perspective, our point estimate at 12/31 for excess deposits was $50 billion, five zero.

So we're pretty cautious about where we put that.

Where you invest it, okay.

And then you gave your assumptions on the short-term rates globally, but can you talk a little bit about where you see intermediate rates, say a two- to three-year treasury and a 10-year treasury for 2012 in terms of your NIM assumptions?

About where it is now.

Okay, okay, so stable yield curve.

No change.

Okay.

And then, Jay, can you talk about the timing of the new business installments and what was installed in the fourth quarter and what you have left to install in 2012 given the business that you've won so far on the custody side?

Brian, I think the number for the fourth quarter was $590 billion on the asset servicing business.

And I believe there's $300 billion --

Yes; about $300 billion.

-- to be implemented.

I'd say the majority of that in the first, a little leakage into the second quarter, so it is kind of front third of the year loaded.

$300 billion to -- in the first half.

And what was -- was $590 billion installed -- $590 billion was won in the fourth quarter, right?

$590 billion was won in the fourth quarter and of that, so $290 billion was installed in the fourth quarter and $300 billion rolls over into 2012.

Got it, got it, okay.

And then on the processing fees you mentioned a couple of different, obviously, one-time items.

Should we be thinking of that run rate at around that $70 million level or lower, given the new business -- or I'm sorry, given the exit of the business, the fixed income business and --?

Yes, there's been some noise in that line both ways in the last couple quarters, Brian, you know, some gains that were nonrecurring.

And we would expect that fair value adjustment that I referred to as being nonrecurring in that line.

So I think the average is probably better around that $70 million level, something like that.

Okay, great.

And then just lastly, so Jay, it would be -- you did hit about 10% EPS growth on an operating basis in 2011 if we use the $0.93 for the fourth quarter.

What's your thought about -- I know you try to grow your EPS about 10% to 15% annually and you try to hit that every year.

Obviously, if we're in a tough revenue environment, what's your thought about controlling expenses to try to make that 10% EPS growth again in 2012?

Yes, we -- I guess I'd begin by saying that we consider this to be a little bit abnormal environment in 2012.

We think we did a good job in generating EPS in 2011.

It was driving the expense line; it was driving revenue; it was returning capital to shareholders.

To me, that team is going to carry forward in 2012 where driving revenue on all fronts, looking at new business, cross sell, examining fee schedules, fee increases, new products.

So we're driving on all fronts there.

And I think you've seen, particularly evidenced by the fourth quarter, that we're prepared to take expense action in order to make sure that we calibrate to the environment from the standpoint of generating earnings.

So expect more of the same for 2012.

We'll give you a little bit more insight when we get together in February at the investor and analyst conference as far as some of the underlying assumptions which drive top line, bottom line, and EPS.

But I'm not in a position to do that right now.

Okay.

Okay, great.

Thanks very much.

And Brian, just to circle back to your FX question in the interest of completeness, 50-50 is FX excluding the electronic execution.

If you include the electronic execution, indirect is about a third, not half.

Okay, great.

Thank you.

Gerard Cassidy, RBC.

Jay, can you share with us -- in the past you talked about going back to the installed base and renegotiating maybe some pricing for your products.

How is that proceeding?

And are you having better luck with smaller clients or larger clients on winning price increases?

Yes, hi, Gerard.

I would say it's a journey.

I think we've been at it for a while.

I think when I look at call it broadly, pricing power, the way I think about that is first and foremost we need to continue to develop and create new products so that we can differentiate ourselves because without differentiation it's hard to get fee increases or pricing power.

So combine with that the more complex the deal, the better opportunity there is for differentiation and, therefore, pricing leverage, which naturally takes you to the larger end of our client base.

I think in the smaller end of the client base we can increase price through pricing increases and it's probably easier to do but it's got less impact.

So our focus is really on looking at -- I think we have very good customer base profitability metrics.

And all of our account teams know what target margins are and they're using all their tools within their power -- cross-selling, fee increases to make sure that we get paid for the value that we are creating.

And I think there's been some evidence of the ability to increase fees.

I'd say some of the more common areas would be in things like securities lending where we can shift the split, or in some cases, straight pricing increases.

So I would say it's -- as each quarter rolls on and the environment continues to be constrained, we're working harder and harder and more aggressively on making sure that we are capturing the right level of economics for the services that we are providing, so, ongoing.

Okay.

You talked about potential acquisition opportunities should some of these European banks, in particular, look to raise capital by selling off maybe custody businesses.

Are you guys seeing any evidence that there are some banks that may just have to throw in the towel because they are too small to compete with yourselves and JPMorgan Chase, or Bank of New York, or real giants in the industry?

Is there any evidence of that, or do you guys see any of that in your day-to-day business wins where you continue to win from the smaller guys?

Yes, I'd say a couple of points here.

One, pretty clear to me that this group of organizations that you're referencing are not growing.

They're not gaining any shares, so we compete; it's rare that they show up in a meaningful competition.

So I think from a standpoint of, if you're looking from inside one of those, let's say, universal banks looking out, you wouldn't be seeing growth.

I think the reason that these assets have not come out before now is that there's some perception that the deposit base provides some stability to their funding, so I think that's one of the reasons that as a bank might be looking at potential assets for sale, that this would be not in the first wave, or first phase.

I think we're getting past the first phase.

I think the need to raise capital overwhelms the belief that the deposits provide a good source of funding for these banks.

So I think it's just a slow process.

But they're not growing, from what I can tell.

They're not being funded, so new product investment is likely to be low.

So I just think it's a little bit of a waiting game here, but it will eventually happen.

And then finally, on the return on capital approach, clearly the federal reserve for you and your peers will have a dominant say on what can be returned to shareholders.

If next year, meaning spring of 2013, if companies like your own get your final Basel III, tier 1 common ratio targets with a [SIPI] buffer by the end of 2012, and you exceed that during the stress test, would you guys be comfortable in giving back to shareholders more than 100% of earnings if you exceed the Basel III tier 1 ratio common ratio under stress test conditions?

And do you think the federal reserve would allow you to do it if you do exceed it?

You know, I would say a couple things.

One, up till now the stress tests have really been geared around the following year's capital generation and how that might be deployed for things like buybacks or dividends.

I don't know out a year whether that -- I think that eventually changes where you look at total capital, look at use of capital, look at -- not use of capital, but look at capital under stress.

And you'd expect over time you'd see more flexibility.

Too early to tell.

I guess from another standpoint, we look at that from a standpoint of kind of the point in time -- what does the acquisition environment look like?

How much capital should we hold on the side to make sure that we didn't get shut out of that?

And then what our stock was trading at and whether or not it would be attractive to buy back shares at whatever price.

So it's very hard to project out over a year what the environment might look like.

It's also hard, although I think over time, the Fed will relax rules around capital.

And that will probably be a factor of the environment.

If the environment looks -- feels more stable, if Europe appears more predictable, it's likely we'll see more flexibility with regard -- from the regulators.

Thank you.

John Stilmar, SunTrust.

Just really quickly, you showed an impressive amount of expense control this quarter.

I'm wondering in terms of the motivations -- do you look at -- because of the environment, do you look at specific verticals of businesses and then choose not to continue like you did in some of the FX?

Or are these regulatory businesses that you have changed your perspective around the opportunity?

Or thirdly, is it something where the environment has caused you to look at other things in your business processes, like overhead and a central expense base to the platform that may not be as directly tied to a specific business line and take that next level of expense cuts?

I'm wondering if you could prioritize that in terms of how you look at businesses versus expenses?

Sure, let me take a swing at that.

I would say -- the first thing I would say is almost a couple of years ago I think we got out in front of this a little bit by anticipating the environment was going to be challenging.

And so we've put in place the IT and ops transformation plan, which was pretty broad-based and far-reaching throughout the organization.

We anticipate the fund execution will -- it will affect close to 10% of the expense base of the company.

So it's pretty pervasive; it's structural; it's recurring; it's hard to do, but will provide many benefits.

So I'd say that's kind of the centerpiece.

I would say beyond that, every year, every quarter, we review business lines, look at expenses against revenues.

And there's a certain amount of calibration and you can make there, largely around headcount, around some of the other fees that are associated with delivering those products and services.

I'd say the third dimension of how we view expense control is there are more short-term things we can do, tend to be around things like consultant expense in this quarter; incentive compensation, there are adjustments you can make in a quarter.

So I would say we look at it across I think three dimensions -- one, broad organizational, structural changes in the cost base and those will continue; two, at a product or a business line level, making sure that the product or business line is returning the right level of economics to the Corporation; and then within a period, within a quarter, there are certain adjustments we can make.

And we are focused on all three of those levers.

Great.

Thank you very much.

We'll take one more question.

Mike Mayo, CLSA.

What are your new expense initiatives in light of your more cautious outlook?

So, I just mentioned and I just talked about the IT and ops, which is the four-year plan.

I think we made a decision this quarter to shut down our fixed income rates initiative, which we just thought wasn't going to allow us to achieve the hurdle rate that we thought we could achieve -- we thought we needed to achieve.

So we're constantly looking at business line level, our products reaching the hurdle rate.

Other than that, we're looking at personnel efficiencies across the organization.

We're looking at other expenses, how we -- what we pay for consultants; what consultants we use.

So it's a little bit of -- my response to the prior question, Mike -- it's structural, it's business line and it's kind of point in time within a quarter, things that we can moderate in order to reflect the environment that is occurring in the quarter.

I guess in terms of your outlook, is there any chance you can show positive operating leverage in 2012, just have revenues grow faster than expenses, even if it's a decline?

Or is it just too tough of an environment?

You know, I would say it would be tough.

I've said before that if we approach, again, more normalized environments, 10%-plus revenue growth, you'd expect a couple of percent of operating leverage as you get to a mid-single range.

Maybe it is 1%.

As you get into the kind of zero to 5% growth rates, things have to happen the right way in order to get operating leverage.

And I wasn't clear, the FX decline shifting, is that a structural change away from your firm or to other places within your firm?

Yes, Mike, no; it's within the house.

It's just we have four different products within FX, depending on how people want to interact with us.

And they're just moving from one option to another, but it is all staying within State Street.

And in terms of EPS guidance for 2012, I know you'll talk about that, but you're giving such a negative outlook, don't you just want to get it out now?

I mean some sense?

I'm not trying to give necessarily a negative outlook, just a realistic outlook around the challenge of the second half of last year.

And I don't think anybody is ready to predict that the most recent markets are going to sustain themselves; if they sustain themselves, then my outlook changes.

I think we're just being cautious.

The most recent market action looks good.

We still worry about Europe, so we're just trying to be realistic about the environment that we're operating in.

And also being, I think, straightforward in our disclosure that we intend to keep adjusting the expense base to make sure that if the environment continues to be constrained that we can continue to generate earnings.

All right.

Thank you.

So we will look forward to seeing, hopefully, most of you at our investor and analyst meeting in February.

Thank you.

This concludes today's conference.

You may now disconnect.