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State Street shares fall on investment exposure fears

A fleet of State Street Corp. investment vehicles with nautical names such as Clipper, Galleon, Spinnaker, and Schooner is navigating some rough financial waters.

Shares of the giant Boston money manager fell 4 percent yesterday, and are down 15 percent from their high this month, on growing concern these vehicles -- known as "conduits" -- could expose State Street to the woes that have affected other financial institutions in the recent credit crunch.

State Street, of Boston, said the credit quality of the assets the vehicles hold is "very good," and several analysts who follow the company said they aren't concerned by the exposure. Even so, the situation has helped drive a big decline in the stock price of the world's largest institutional money manager, which closed at $72.06 on Aug. 8. Yesterday shares fell $2.72 to close at $61.16 on a day the Dow Jones industrial average fell 280.28 points, or 2.1 percent.

"The market is very stressed about the smallest things that relate to liquidity and funding," said Loomis, Sayles analyst Tom Finucane.

State Street's main lines of business include managing funds and handling transactions for institutional investors, and until recently these seemed to insulate it from the subprime lending problems that have driven down shares in other financial institutions this summer. As interest rates have risen and borrowers with credit problems have experienced more difficulties in repaying mortgages, the value of investment portfolios holding subprime mortgages or tied to them has also plunged, and created big difficulties for their investors.

Now these concerns are spreading to State Street's four conduits. Dating to 1992 and set up as limited-liability companies, each conduit typically buys assets from banks such as auto loans, credit card receivables, or student loans, bundles them together, and sells the investments to buyers such as mutual funds.

Mutual fund companies buy into the conduits for their money-market operations. Money-market funds typically invest in very conservative investments, but also purchase asset-backed securities to give customers slightly higher returns than they could get if they invested only in government securities. State Street filings show it counts about 40 percent of the US mutual fund industry among its customers and provides the conduits with various commitments totaling roughly $29 billion.

But in the wake of the subprime meltdown, many types of asset-based securities have come under pressure. Investors have grown concerned that State Street might have trouble selling new commercial paper, which could force it to buy the paper itself or otherwise make good on conduit obligations. Other financial institutions have faced similar questions since German bank IKB was forced to accept an emergency loan for its conduit last month. In all, banks have $891 billion supporting "asset-backed commercial paper funds," Fitch Ratings said in a recent report.

State Street said in a statement that the assets held by the conduits are "very good," mainly considered AAA or AA by rating agencies. "The commercial paper continues to be sold daily, and we continue to actively monitor market developments," it said.

In addition, the company's filing says potential losses related to the conduits wouldn't materially affect its financial position.

The Times of London reported yesterday that State Street faces the highest level of commitments to conduits among its peers, contributing to the share decline. In a research note, however, Standard & Poor's said its ratings on State Street aren't affected by the report on the conduits, which S&P said hold a broad mix of highly rated securities. "The bank has the capacity to bring the assets of all four conduits onto its own balance sheet at current market prices and still meet regulatory 'well capitalized' requirements," S&P said.

Even under a more severe scenario, State Street would take actions to protect the equity ratios S&P uses as a key benchmark, the agency wrote. Finucane and other analysts also said they tend to back State Street, saying its conduits don't appear to be so risky.

"I trust the conduit and State Street have done their homework," Finucane said. Another analyst, Richard Bove of Punk, Ziegel & Co., said he is maintaining his "market perform" rating on State Street, since he believes its overall business will be weaker in the future, but said he doesn't agree with arguments for selling the stock over the conduit issue.

"I don't think people should be selling the stock because they think there's going to be some blowup in the conduits," he said.

Also this summer State Street has faced questions on whether its own investment portfolio faces much exposure to subprime mortgages. On a July 17 conference call with analysts, its chief financial officer, Edward J. Resch, said the company is "very comfortable" with its positions backed by these mortgages and that it has plenty of cushion to absorb losses, even if they were to grow.

Ross Kerber can be reached at

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