State Street shares up on forecast, despite charge

BOSTON/NEW YORK (Reuters) - State Street Corp (STT.N) replaced on Thursday its investment management chief and said it will take a $279 million charge for legal costs related to bad bets on subprime mortgages, but its shares surged on expectations of strong operating results.

The announcement by the world's biggest institutional money manager fueled a rally in shares of rivals Bank of New York Mellon Corp (BK.N) and Northern Trust Corp (NTRS.O), which analysts consider far less exposed to risky home loans.

State Street, which had about $2 trillion of assets under management on September 30, said William Hunt resigned Wednesday as chief executive of its State Street Global Advisors unit, a job he had held since January 2005. Analysts said Hunt, 45, was ousted.

James Phalen, 57, head of international operations for investment servicing and investment research and trading, was named interim president and chief executive, reporting to the Boston-based company's chief executive, Ronald Logue.

State Street said it set aside $618 million before taxes to cover possible legal claims that it mishandled investor money by putting it in inappropriately risky investments.

It said the problems affected portfolios representing less than 2 percent of assets under management.

The charge will reduce fourth-quarter earnings by 71 cents per share. State Street said it faces three class-action lawsuits over subprime losses. Insurer Prudential Financial Inc (PRU.N) sued two State Street units last year.

"I'm determined to avoid it happening again," Logue said on a conference call, referring to the losses.

FUNDAMENTALS STRONG

State Street estimated 2007 operating profit per share at $4.54 to $4.57, excluding the charge, merger costs and tax adjustments.

That equated to fourth-quarter EPS of $1.39 to $1.42. Analysts on average were expecting $1.06, according to Reuters Estimates.

"The fundamental business is extremely strong, being driven by strong net new business," Logue said.

State Street is also one of the world's largest providers of custody services for institutional investors, overseeing $15.1 trillion of assets.

"The investment community is looking beyond the charge and looking at the very, very strong fourth-quarter results," said Nancy Bush, managing member of NAB Research LLC in Aiken, South Carolina. She had expected profit of $1.09 per share.

In late afternoon trading, State Street shares were up $7.02, or 8.9 percent, at $85.90, just shy of an all-time high of $86.30 earlier in the session.

Shares of Bank of New York Mellon were up $1.84, or 3.9 percent, at $48.97, while Northern Trust rose $1.90, or 2.57 percent, to $75.96.

"Neither of these companies had the sort of exposure in asset management to subprime that State Street had," Bush said. "So I don't see this as being an industrywide issue."

SEVERANCE

State Street joins a growing list of financial services companies to record costs tied to deteriorating global credit markets.

Last week, money manager Legg Mason Inc (LM.N) said it will take a quarterly charge of 15 cents per share to shore up two funds that had made risky investments.

Some analysts liked how State Street handled the issue.

"We thought they addressed the problem upfront," said Gerard Cassidy, analyst at RBC Capital Markets in Portland, Maine. "They let the people go that were responsible for making the error. They are putting the problem behind them."

According to a regulatory filing, Hunt is entitled to severance and benefits valued at about $14.1 million. He also agreed not to work for a competitor for 18 months, but may establish a hedge fund after six months or join an independent hedge fund after 12 months, the filing said.

State Street expects to report 2007 net earnings per share of $3.42 to $3.45, with revenue increasing more than 30 percent. It expects to announce results later this month.