State Street Profit Rises 5.4% on Stock Market Gains

State Street Corp., the third-largest custody bank, said second-quarter profit rose 5.4 percent after equity markets rallied, lifting assets and the fees they generate.

Net income increased to $602 million, or $1.38 a share, from $571 million, or $1.24, a year earlier, the Boston-based company said today in a statement. The company disclosed today that regulatory compliance costs for 2014 will “significantly exceed” its prior estimate of $30 million to $40 million, without providing a new estimate.

“They reported very strong net new business, both in custody and asset management,” James Shanahan, an analyst at Edward Jones & Co. in St. Louis, said today in an interview. “But this guidance on expenses really caught the market by surprise and is clearly trumping all that good news.”

State Street has relied on cost cutting and stock-market gains to overcome the negative impact of low interest rates, which hurt the ability of custody banks to earn money on lending and investing activities. Operating expenses are expected to climb by $20 million in the third quarter compared with the three months ended June 30, Chief Financial Officer Michael W. Bell said during a conference call with analysts.

Hooley’s Goal

State Street rose 0.5 percent to close at $70.07 in New York trading. It has dropped 4.5 percent this year, worst among the three biggest U.S. custody banks. Bank of New York Mellon Corp., the world’s largest custody bank, gained 12 percent this year and Northern Trust Corp., the third-biggest independent custody bank, climbed 6.8 percent.

“Our goal is to be fully compliant with all the rules and with regulators’ expectations,” Chief Executive Officer Joseph L. Hooley said today in an interview. “We’ve been pretty transparent about that.”

Hooley said State Street would ultimately gain more than it loses from increased regulatory requirements because it makes money helping clients comply with tougher rules.

“In the past, times of significant change in regulation have created the biggest impetus for growth in our businesses,” he said.

Excluding some costs, State Street’s operating basis net income was $1.39 a share, compared with the $1.26 a share estimate of 19 analysts surveyed by Bloomberg.

Stock Rally

The bank benefited as the MSCI ACWI Index of global stocks advanced 4.3 percent during the quarter and climbed 21 percent in the year ended June 30. Custody assets rose to $21.7 trillion, helped by $250 billion in new business, and money-management funds that surged to $2.48 trillion as clients added $18 billion.

Assets under custody increased 15 percent from a year earlier and 3.3 percent from the prior quarter. The amount of money State Street oversees for investing clients jumped 16 percent in the year ended June 30, increasing 4.2 percent in the quarter.

That helped increase the fees generated for custody and asset-management services, offsetting drops in foreign-exchange trading, brokerage fees and net interest revenue. Total revenue rose 1.6 percent to $2.6 billion. Expenses climbed 2.8 percent to $1.85 billion, driven by an increase in compensation and employee benefits.

‘Favorable Settlements’

State Street’s effective tax rate declined to 17 percent from 24 percent a year earlier, mainly because of “favorable settlements related to prior-year tax returns” and benefits related to “tax-advantaged investments,” Bell said during the analysts call.

Shanahan estimated that the temporarily lower tax rate added 10 cents a share to the quarter’s earnings.

The company repurchased $410 million in common stock in the three months ended June 30. State Street can buy back an additional $1.3 billion in shares through March 2015 under its current repurchase program.

BNY Mellon said July 18 its second-quarter profit declined 33 percent to $554 million, or 48 cents a share. Earnings were reduced by $161 million by costs related to investment funds and severance.

Custody banks keep records, track performance and lend securities for institutional investors including mutual funds, pension funds and hedge funds. State Street also manages investments for individuals and institutions.

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