News Column

Fitch Affirms All Ratings for Bank of New York, Northern, & Brown Brothers; Upgrades State Street

August 14, 2014

CHICAGO--(BUSINESS WIRE)-- Fitch Ratings has affirmed the ratings for Bank of New York Mellon Corporation (BONY) at 'AA-', Northern Trust Corporation (Northern) at 'AA-', and Brown Brothers Harriman (BBH) at 'A+'.

The Rating Outlook for BONY, Northern, and Brown Brothers remains Stable.

In addition, Fitch has upgraded the ratings for State Street Corporation (State Street) to 'AA-' from 'A+', and revised the Rating Outlook to Stable from Positive.

These ratings actions were taking in conjunction with Fitch's U.S. trust and processing bank peer review. A full list of ratings follows at the end of this release.

KEY RATING DRIVERS - IDRS, VR, AND Senior Debt

Today's rating actions equalizes the ratings of the largest standalone trust and processing banks (trust banks) in the United States at 'AA-/F1+'. Brown Brothers, a privately held partnership, remains one notch lower at 'A+/F1' given its smaller scale and comparatively less financial flexibility than the larger, publicly traded companies.

The upgrade of State Street's ratings and Outlook revision reflects the company's improved and more seasoned risk management practices and procedures, continued relatively conservative overall balance sheet posture, and continued efforts in streamlining its business, which Fitch believes will lead to more significant positive operating leverage in a higher short-term interest rate environment.

The high ratings for all the trust banks noted above reflect business models with high barriers to entry and sticky customer relationships, which would be extremely difficult for a new entrant into the marketplace to replicate. Furthermore, the strong franchises of the trust banks are further supported by a sound funding profile, consisting mainly of core custody deposits, strong capital ratios supporting comparatively low risk balance sheets, and good asset quality metrics.

Further, while there has been significant pressure on these firms' results amid the protracted low interest rate environment coupled with a period of extremely low volatility, these firms' returns on equity (ROE) have still remained satisfactory from a credit perspective at around 10% on average, though these results are below the trust banks (excluding Brown Brothers, whose returns remain relatively good) long-term averages and Fitch's long-term cost of equity assumption for the trust banks of between 12% to 15%. Fitch believes these company's current level of operating performance amid the difficult market and interest rate environment of the last several years, indicates a significant amount of resiliency in the trust bank business model.

While the resiliency of the business model is in part due to high barriers to entry noted above, which has resulted in a somewhat oligopolistic industry, the trust banks have not benefited from pricing power which one would think given the competitive positioning of the industry. Rather, those with the lower cost operating model can typically achieve greater scale, which can lead to more aggressive pricing, though also outsize returns for the low-cost provider.

As such, each firm has had a laser focus on managing its expense base over the last few years. This has included optimizing each firm's respective workforce as well as improving efficiencies and streamlining operations through significant technology investments. While the results to date have been mixed, as much of the expense savings noted above have been offset by significant additional expenditures on regulatory and compliance functions and personnel, Fitch believes that the groundwork for good positive operating leverage has been laid for each of the firms.

To wit, the trust banks are very sensitive to higher short-term interest rates, whenever that may occur, as well as higher volatility, particularly in the foreign exchange (FX) markets. As such, Fitch expects a meaningful acceleration in each of the trust bank's earnings once some of the regulatory and compliance costs the firms are currently incurring level-off, and as soon as the companies begin to benefit from higher short-term interest rates or increased FX volatility, or both simultaneously. This eventual earnings acceleration should boost ROEs back to historical levels and in line with Fitch's cost of equity assumptions and is embedded with Fitch's Stable Rating Outlook on the trust banks.

Offsetting the strengths noted above is an elevated level of operational risk inherent in the trust bank's business models, which serves as limiting factor for upwards rating momentum.

To this end, Fitch believes that the main threat to each firm's business model and ratings would result from a large technological mishap or operational loss that is idiosyncratic to one company resulting in reputational damage causing clients to flee the firm. Fitch does believe these risks are well monitored and controlled, but also acknowledges that they are inherently difficult to predict and quantify. As such, a large occurrence at any one firm would likely prompt Fitch to review ratings to determine if a negative rating action was appropriate.

An industry wide event that causes a significant operational loss that affects each firm equally may still impact ratings, but may also allow each firm to better maintain its client base.

RATING SENSITIVITIES - IDRs, VR, AND SENIOR DEBT

With today's actions, Fitch now believes that the trust bank's ratings are solidly situated at their current rating levels and Stable Rating Outlooks.

However, it is possible that over a very long-term time horizon there is some potential upside to Brown Brother's ratings. This could be predicated on increasing scale and revenue diversity, particularly through increasing the revenue contribution from the asset management segment.

In addition to the operational risks noted earlier in this release, there are some key risks from currently evolving regulatory changes that could impact the trust banks and their rates.

The most significant on the horizon is the proposed regulatory changes regarding the supplementary leverage ratio (SLR) in the U.S. for both BONY and State Street. Given their smaller size, Northern and Brown Brothers are not subject to the SLR. The SLR requires a leverage ratio of 5% at the holding company and 6% at the main bank subsidiary for each firm.

While Fitch believes that each firm will be in compliance with SLR requirements when they are finalized and come into practice, given the countercyclical nature of some of the deposit flows to BONY and State Street during periods of market stress, each firm has the risk of falling below their SLR minimums in such a scenario.

There is still a small possibility that the rule could be altered to give relief to the companies during times of market stress. The companies are also looking at alternative mechanisms or structures to move deposits off-balance sheet into money funds or other vehicles to help manage the SLR. To the extent that these strategies cause unintended increases in risk to the respective balance sheets could also impact ratings.

Further, additional regulation including the Liquidity Coverage Ratio (LCR), Net Stable Funding Ratio (NSFR), Basel III operational risk weightings, and potential minimum debt requirements, while all aimed at reducing explicit risks to various stakeholders, also has the potential to create unintended risks, which Fitch will evaluate over time for any risks created.

For example, should some of the regulation noted above force firms to divest themselves of core businesses or move away from core competencies such that it negatively impacts the franchise, could be a negative ratings driver over time.

Ratings for BONY and State Street are highly sensitive to Fitch's ultimate position on potential minimum debt requirements, which were published in a paper on March 27, 2014 titled 'U.S. Bank HoldCos & OpCos: Evolving Risk Profiles'. This paper indicated that Fitch could decide to notch key banking subsidiaries from holding companies (either the holding company is downgraded or the bank level subsidiary is upgraded) should Fitch determine proposed minimum debt requirements along with the FDIC'sOrderly Liquidation Authority changes the risk profiles of the two entities.

Fitch would also note that it considers various market risks on the trust banks and has complied a stress test on the company's earnings which include scenarios such as a simultaneous 40% decline in equity markets, 5% decline in fixed income markets, and interest rates remaining flat at today's current low levels. In this scenario, Fitch believes that each firm's annual earnings should remain around break-even or at a modest loss incorporating very large litigation charges in the stress. Fitch believes this result adds support to each firm's ratings and Stable Rating Outlook.

KEY RATING DRIVERS AND SENSITIVITIES - SUPPORT RATINGS (SR) AND SUPPORT FLOOR RATINGS (SRF)

BONY and State Streets' current SRs and SRFs reflect Fitch's expectation that there remains an extremely high probability of support from the U.S. government (rated 'AAA'; Outlook Stable by Fitch) if required. This expectation reflects the U.S.'s extremely high ability to support its banks especially given its strong financial flexibility, though propensity is becoming less certain. Specific to BONY and State Street our view of support likelihood is based mostly on their systemic importance in the U.S., their global interconnectedness given their size and operations in global capital markets, significant deposit market share and their positions as key providers of financial services to the U.S. economy. BONY and State Street's IDRs and senior debt ratings do not benefit from support because their VRs are all above their SRF.

However, in Fitch's view, there is a clear intention to reduce support for G-SIFIs in the U.S., as demonstrated by the Dodd Frank Act (DFA) and progress regulators have made on implementing the Orderly Liquidation Authority (OLA). The FDIC has proposed its single point of entry (SPOE) strategy and further initiatives are demonstrating the U.S. government's progress to eliminate state support for U.S. banks going forward, which increases the likelihood of senior debt losses if its banks run afoul of solvency assessments.

The SRs and SRFs are sensitive to progress made in finalizing the SPOE strategy and any additional regulatory initiatives that may be imposed on the G-SIFIs, including debt thresholds at the holding company. Fitch's assessment of continuing support for U.S. G-SIFIs has to some extent relied upon the feasibility of OLA implementation rather than its enactment into law (when DFA passed). Hurdles that remain include the resolution of how cross-border derivative acceleration/termination provisions are handled and that there is sufficient contingent capital at the holding company to recapitalize without requiring government assistance.

Fitch expects the SPOE strategy and regulatory action to ensure sufficient contingent capital will be finalized in the near term. However, regardless of its finalization, Fitch believes that sufficient regulatory progress continues to be made over the ratings time horizon. Therefore, Fitch expects to revise BONY and State Street's SRs to '5' and SRFs to 'No Floor' within the next one to two years; likely to be some point in late 2014 or in 1H15.

Absent a material in change economic conditions or the companies' stand-alone credit profiles a revision of the SRFs to 'No Floor' would mean no change to BONY or State Street's Long-term IDRs and debt ratings because their viability ratings are all above their SRFs.

Northern and Brown Brothers already have SR's of '5' and SRF's of 'No Floor' and are not designated G-SIFIs so would not likely have a potential minimum debt requirement.

KEY RATING DRIVERS AND SENSITIVITIES - LONG AND SHORT TERM DEPOSIT RATINGS

The trust bank's uninsured deposit ratings at the subsidiary banks are rated one notch higher than the company's IDR and senior unsecured debt because U.S. uninsured deposits benefit from depositor preference. U.S. depositor preference gives deposit liabilities superior recovery prospects in the event of default.

The ratings of long and short-term deposits issued by the trust banks and its subsidiaries are primarily sensitive to any change in the company's IDR. This means that should a Long-term IDR be downgraded, deposit ratings could be similarly impacted.

KEY RATING DRIVERS AND SENSITIVITIES - SUBORDINATED DEBT AND OTHER HYBRID SECURITIES

Subordinated debt and other hybrid capital issued by the trust banks and by various issuing vehicles are all notched down from the holding company or its bank subsidiaries' VRs in accordance with Fitch's assessment of each instrument's respective non-performance and relative loss severity risk profiles. BONY, Northern, and Brown Brothers' subordinated debt has been affirmed due to the affirmation of those companies VRs. State Street's subordinated debt has been upgraded in concert with the upgrade of the company's VR.

Ratings are primarily sensitive to any change in the VRs, where the notching would be realigned in conjunction with any change in the VR.

KEY RATING DRIVERS AND SENSITIVITIES - HOLDING COMPANY

The IDRs and VRs of BONY, State Street, and Northern are equalized with those ratings of its operating companies and banks, reflecting its role as the bank holding company, which is mandated in the U.S. to act as a source of strength for its bank subsidiaries. All have modest double leverage.

Should any of the holding companies become under-capitalized or have cash flow coverage of less than 18 months to meet obligations, there is the potential that Fitch could notch the holding company IDR and VR from the ratings of the operating companies.

Brown Brothers does not have a holding company structure.

KEY RATING DRIVERS AND SENSITIVITIES - SUBSIDIARY AND AFFILIATED COMPANY RATING

The IDRs and VRs of the trust banks' bank subsidiaries are core to each company's business and therefore IDRs and VRs are equalized across the group.

Ratings are primarily sensitive to any change in the VRs of the associated bank subsidiaries.

Fitch would also note that the ratings of any foreign bank subsidiaries could change (be downgraded) should there be a change in the foreign country ceiling rating in a particular geography.

Fitch has affirmed the following ratings (Bank of New York Mellon):

Bank of New York Mellon Corporation (The)

--Long-term Issuer Default Rating (IDR) at 'AA-'; Outlook Stable;

--Long-term senior at 'AA-';

--Long-term subordinated at 'A+';

--Short-term IDR at 'F1+';

--Commercial Paper at `F1+';

--Viability Rating at 'aa-';

--Preferred Stock at 'BBB';

--Support Rating at '1';

--Support Rating Floor at 'A'.

The Bank of New York Mellon

--Long-term deposits at 'AA';

--Long-term IDR at 'AA-'; Outlook Stable

--Long-term senior at 'AA-';

--Short-term deposits at 'F1+';

--Short-term IDR at 'F1+';

--Viability Rating at 'aa-';

--Support Rating at `1';

--Support Rating Floor at `A'.

BNY Mellon National Association

--Long-term IDR at 'AA-'; Outlook Stable

--Long-term deposits at 'AA';

--Long-term subordinated debt at 'A+';

--Short-term IDR at 'F1+';

--Short-term deposits at 'F1+';

--Viability Rating at 'aa-';

--Support Rating at `1';

--Support Rating Floor at `A'.

BNY Mellon Trust Delaware

--Long-term deposits at 'AA';

--Long-term IDR at 'AA-'; Outlook Stable

--Short-term deposits at 'F1+';

--Short-term IDR at 'F1+';

--Viability Rating at 'aa-';

--Support Rating at `1';

--Support Rating Floor at `A';.

The Bank of New York Mellon Trust Company, National Association

--Long-term deposits at 'AA';

--Long-term IDR at 'AA-'; Outlook Stable

--Short-term deposits at 'F1+';

--Short-term IDR at 'F1+';

--Viability Rating at 'aa-';

--Support Rating at `1';

--Support Rating Floor at `A'..

Mellon Funding Corporation

--Long-term IDR at 'AA-'; Outlook Stable.

--Long-term subordinated debt at 'A+';

--Short-term IDR at 'F1+';

--Short-term debt at 'F1+';

--Support Rating at '5';

--Support Rating Floor at 'NF.

The Bank of New York Mellon (International) Ltd

--Long-term IDR at 'AA-'; Outlook Stable;

--Short-term IDR at 'F1+';

--Support at '1.

The Bank of New York (Luxembourg) S.A.

The Bank of New York (Luxembourg) S.A. - Italian Branch

--Long-term IDR at 'AA-'; Outlook Stable.

--Short-term IDR at 'F1+';

--Support at '1';

The Bank of New York Mellon S.A./N.V.

--Long-term IDR at 'AA-'; Outlook Stable

--Short-term IDR at 'F1+';

--Long-term Deposits AA-

--Short-term Deposits F1+

--Support at '1';

BNY Institutional Capital Trust A;

Mellon Capital III

--Trust Preferred Securities at `BBB+'.

Mellon Capital IV

--Trust Preferred Securities at 'BBB'

Fitch upgrades the following ratings (State Street Corporation):

State Street Corporation

--Long-term IDR to 'AA-' from 'A+'; Outlook Revised to Stable from Positive;

--Viability rating to 'aa-' from 'a+';

--Long-term subordinated notes to 'A+' from 'A';

--Junior subordinated debt to 'BBB+' from 'BBB';

--Preferred stock to 'BBB' from 'BBB-'

--Long-term senior debt to 'AA-' from 'A+'.

State Street Bank and Trust Company

--Long-term IDR to 'AA-' from 'A+'; Outlook Revised to Stable from Positive;

--Senior Debt to 'AA-' from 'A+';

--Viability rating to 'aa-' from 'a+';

--Long-term deposits to 'AA' from 'AA-';

--Long-term subordinated to 'A+' from 'A' .

State Street Capital I

State Street Capital IV

--Trust Preferred Securities to 'BBB+' from 'BBB'.

Fitch has affirmed the following ratings:

State Street Corporation

--Short-term IDR at 'F1+';

--Support at '1';

--Support Rating Floor at 'A';

--Commercial paper at 'F1+';

State Street Bank and Trust Company

--Short-term IDR at 'F1+';

--Support at '1';

--Support Rating Floor at 'A';

--Short-term deposits at 'F1+';

Fitch has affirmed the following ratings (Northern Trust Corporation) & (Brown Brothers Harriman & Co.):

Northern Trust Corporation

--Long-term IDR at 'AA-'; Outlook Stable.

--Long-Term Senior Unsecured at 'AA-';

--Short-term IDR at 'F1+';

--Short-term commercial paper at 'F1+';

--Viability at 'aa-';

--Subordinated debt at 'A+'

--Preferred Stock at 'BBB';

--Support '5';

--Support floor 'NF'.

Northern Trust Company (The)

--Long-term IDR 'AA-'; Outlook Stable.

--Short-term IDR at 'F1+';

--Short-term deposits at 'F1+';

--Long-term deposits at 'AA';

--Subordinated notes at 'A+'

--Viability at 'aa-';

--Support '5';

--Support floor 'NF'.

NTC Capital I and II

--Preferred stock at 'BBB+'.

Brown Brothers Harriman & Co.

--Long-term IDR 'A+'; Outlook Stable

--Short-term IDR 'F1';

--Viability Rating 'a+';

--Support '5';

--Support Floor 'NF'.

Additional information is available at www.fitchratings.com.

In addition to the source(s) of information identified in Fitch's Master Criteria, these actions were additionally informed by information provided by the companies.

Applicable Criteria and Related Research:

--'Global Financial Institutions Rating Criteria'; (January 2014);

--'Rating FI Subsidiaries and Holding Companies' (DATE);

--'Assessing and Rating Bank Subordinated and Hybrid Securities' (DATE);

--'The Evolving Dynamics of Support for Banks' (Sept. 2013)

--'Bank Support: Likely Rating Paths' (Sept. 2013)

--'U.S. Bank Holdcos & OpCos: Evolving Risk Profiles' (March 2014);

--'Sovereign Support for Banks: Update On Position Outlined In 3Q13' (December 2013).

Applicable Criteria and Related Research:

Global Financial Institutions Rating Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=732397

Rating FI Subsidiaries and Holding Companies

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=679209

Assessing and Rating Bank Subordinated and Hybrid Securities Criteria

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=732137

The Evolving Dynamics of Support for Banks

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=715000

Bank Support: Likely Rating Paths

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=715001

U.S. Bank HoldCos & OpCos: Evolving Risk Profiles

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=742096

Sovereign Support For Banks: Update on Position Outlined in 3Q13

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=726698

Additional Disclosure

Solicitation Status

http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=851134

ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: HTTP://FITCHRATINGS.COM/UNDERSTANDINGCREDITRATINGS. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEBSITE 'WWW.FITCHRATINGS.COM'. PUBLISHED RATINGS, CRITERIA AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE 'CODE OF CONDUCT' SECTION OF THIS SITE. FITCH MAY HAVE PROVIDED ANOTHER PERMISSIBLE SERVICE TO THE RATED ENTITY OR ITS RELATED THIRD PARTIES. DETAILS OF THIS SERVICE FOR RATINGS FOR WHICH THE LEAD ANALYST IS BASED IN AN EU-REGISTERED ENTITY CAN BE FOUND ON THE ENTITY SUMMARY PAGE FOR THIS ISSUER ON THE FITCH WEBSITE.



Fitch Ratings

Primary Analysts

Justin Fuller, CFA (Primary Analyst for State Street & Northern), +1 312-268-2057

Senior Director

70 W. Madison Street

Chicago, IL 60606

or

Christopher Wolfe (Primary Analyst for BONY), +1 212-908-0771

Managing Director

or

Mohak Rao, CFA (Primary Analyst for Brown Brothers), +1 212-908-0559

Director

or

Committee Chairperson

Joo-Yung Lee, +1 212-908-0560

Managing Director

or

Media Relations:

Brian Bertsch, +1 212-908-0549

brian.bertsch@fitchratings.com

Source: Fitch Ratings


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