OREANDA-NEWS. State Street Corporation's (STT) third quarter 2015 (3Q15) earnings were impacted by weaknesses in global markets which weighed on the company's assets under custody and administration (AUCA) and assets under management (AUM) levels, according to Fitch Ratings.

Overall return on average equity (ROAE) was 11.3% in 3Q15, up from 8.3% in the sequential quarter which was marred by litigation accruals regarding indirect foreign exchange (FX) matters, and up from 10.6% in the year-ago quarter.

It is noteworthy that there are a couple of items impacting the overall ROAE in 3Q15 including a $47 million after tax charge related to a headcount reduction, a $49 million after tax gain related to the sale of commercial real estate acquired as a result of the Lehman Brothers bankruptcy, and a $59 million reduction in an Italian deferred tax liability.

On an operating basis (excluding the notable items above), STT's ROAE would have been 10% in 3Q15, down from an operating ROAE of 12% in the sequential quarter, and 11.4% in the year-ago quarter.

As noted, the main driver of the lower earnings was pressure on asset valuations as reflected in STT's AUCA and AUM levels. Given that fee revenue is calculated as a percentage of AUCA and AUM, these lower asset levels directly impacted revenues.

In 3Q15, AUCA was $27.7 trillion, down 4.2% from the year-ago quarter and 4.8% from the sequential quarter. AUM was $2.2 trillion, down 9.1% from the year-ago quarter, and down 7.2% from the sequential quarter. This was due to a mix of lower asset values and unfavorable foreign exchange translation given the higher U.S. dollar.

These lower asset levels translate to servicing revenue declining 0.6% from the year-ago quarter and 2.3% from the sequential quarter as well as management fees declining 9.2% from the year-ago quarter and 5.6% from the sequential quarter.

Offsetting this was higher FX trading revenue relative to both the prior year and sequential quarters. Securities finance revenue was up relative to the year-ago quarter, but seasonally down relative to the sequential quarter which was higher due to the European dividend season.

Net interest revenue (NIR) continued to decline, falling 10% relative to the year-ago quarter and 4.1% relative to the sequential quarter. STT's net interest margin (NIM) on a fully taxable equivalent basis was 1.00%, but the balance sheet did decline in size to $247 billion, down 16.1% from the sequential quarter and 10% from the year-ago quarter.

This balance sheet decline was primarily due to efforts by management to push client deposits away from STT's balance sheet, in order to position STT for compliance with the Enhanced Supplementary Leverage Ratio (SLR) as well as help to better manage its G-SIB buffer calculation.

As of the end of 3Q15, total deposits amounted to $186 billion, down 19.2% from the sequential quarter and 10.4% from the year-ago quarter.

The company's fully phased-in SLR was 5.4% at the parent company, up from 5.1% in the sequential quarter and also 5.4% at the bank level, up from 4.9% in the prior quarter. While STT is in compliance with the SLR at the parent company (requirement is 5%), it is still below the 6% requirement at the bank level. As such, Fitch expects management to continue to push client deposits away from the balance sheet.

Given the challenging revenue environment noted above, STT is continue to take steps to manage its expense base. While total expenses were up only 3.7% from the year-ago quarter and down 8.1% from the sequential quarter (which included significant litigation expenses), the company's compensation and employee benefits expense was up 10.3% relative to the year-ago quarter and 6.8% relative to the sequential quarter.

As such, management announced the aforementioned workforce reduction, which includes a reduction of a net 200 positions and a re-location of 400 positions to lower cost geographies. Additionally, management also announced another efficiency initiative designed to reduce expenses by $500 million annually.

This will likely be down through continued use and implementation of technology solutions as well as continued optimization of staffing levels.

In Fitch's view, the company's fully phased-in Basel III Common Equity Tier 1 (CET1) ratios are good. The estimated CET1 ratio under the advanced approaches was 11.4% and under the standardized approach was 11.2%. While the lower ratio of the two will be STT's binding constraint, Fitch would note that the two ratios are starting to converge.