Fitch Ratings has affirmed the Long-Term (LT)and Short-Term (ST) Issuer Default Ratings (IDRs) of State Street Corporation (State Street, or STT) at 'AA-' and 'F1+', respectively.

The IDRs for its operating subsidiary, State Street Bank and Trust Company (SSBT), are affirmed at 'AA' and 'F1+', respectively. The Rating Outlooks on the LT IDRs for STT and SSBT remain Stable.

Key Rating Drivers

VR Underpins IDR: STT's IDR is driven by its Viability Rating (VR) of 'aa-', which reflects a strong franchise, conservatively managed balance sheet and healthy liquidity. These attributes are offset by Fitch Ratings' assessment of State Street's weaker earnings and profitability, and capital and leverage, relative to similarly rated banks. The Outlook is Stable, as Fitch expects STT's credit fundamentals to remain in line with its current ratings despite our expectations for a weaker economy in 2024.

Franchise Strength Supports Ratings: The ratings continue to be supported by a leading franchise in global trust and custody, and a competitive position in asset management - stemming from its SPDR exchange-traded fund (ETF) family and other passive investment products. Investments in Alpha, STT's integrated front-to-back office platform, have the potential to drive margin expansion and create a moat around a highly competitive business. STT continues to boost scale and breadth of product offerings in businesses with high barriers to entry, resulting in resilient client relationships.

Strong Risk Management: Fitch considers STT's balance sheet to be conservatively managed. The company has an extraordinarily liquid balance sheet and the lowest loan-to-deposit ratio among trust banks. Fitch believes the company has firm oversight for its major risk categories, including operational risk. Cyber risk is an outsized risk factor for the bank, given STT's significant role in providing market infrastructure.

Low Credit Footprint: Fitch considers STT's loan book to be of high quality, with exposures primarily to financial counterparties with strong collateral. Notably, the bank has the smallest loan book (relative to total assets) among Fitch-rated U.S. banks, and has demonstrated near-pristine asset-quality metrics over the past decade. In the Federal Reserve's 2023 severely adverse stress test scenario, provisions and loan losses of $1.4 billion represented one of the lowest loss severity rates (3.6% of total loans) among the 23 reported banks.

Declining Operating Profit: Operating profit in financial year 2023 (FY23, to December 2023) was down 6.1% yoy, excluding one-time charges ($294 million securities repositioning, $203 restructuring, and $387 million FDIC special assessment). Fitch expects operating profit to further decline in FY24, driven by lower net interest income from the runoff of non-interest-bearing deposits (NIB).

STT expects to achieve positive fee operating leverage for 2024, driven by 3%-4% in expected fee revenue growth - assuming supportive equity market levels. Fitch considers Federal Reserve policy, which drives both NIB balances and market levels, to be a significant driver of operating profit in FY24.

Capital Distribution Expected: STT's common equity Tier 1 (CET1) level of 11.6% at 4Q23 remains above its long-term CET1 target of 10%-11%. It announced a $5 billion share buyback program in 1Q24 which is intended to be open-ended and multi-year. Fitch expects STT to distribute excess capital in excess of 100% of earnings in FY24, though CET1 is likely to remain above 11%, supported by AOCI burndown.

Liquidity and Funding Profile a Key Rating Strength: Fitch considers STT to have strong access to global markets and contingent funding sources. We also view the low risk and highly liquid balance sheet as a key rating strength, with over 48% of its assets invested in cash and high-quality available-for-sale (AFS) securities as of 4Q23. The rating reflects a durable deposit franchise which is countercyclical to equity markets and 77% operational, the highest in the peer group. Notably, STT's loan-to-deposit ratio of 16.5% is among the lowest among Fitch-rated banks globally.

Fitch believes the company has ample capacity to withstand greater deposit pressures from quantitative tightening and a higher-for-longer interest-rate environment, but the Funding and Liquidity factor score has limited headroom at the 'aa' level as it is higher than the banking sector's 'aa-' Operating Environment.

Holding Company Notching: The firm's intermediate funding entity (IFE), State Street Intermediate Funding, LLC, is meant to improve the resolvability of STT. Under this structure, the holding company, STT, has contributed substantial liquidity and capital to IFE, which it will then hold for the benefit of material entities. When assessing the parent's common equity double leverage - an important consideration for notching holding companies under Fitch's criteria - we take into consideration the resources available through both the parent company and the intermediate holding company.

Rating Sensitivities

Factors that Could, Individually or Collectively, Lead to Negative Rating Action/Downgrade

Evidence of outsized deterioration in the level and volatility of earnings could lead to negative rating action. Should the bank's level of annualized operating profit to risk-weighted assets (RWA) fall below 1.5% for several quarters, Fitch may revise the Rating Outlook on the LT IDRs to Negative or downgrade the VR and LT IDRs.

STT's ratings would be at risk if its CET1 ratio were to approach or ultimately dip below 10% for several quarters in the absence of a credible plan for recovery in the CET1 ratio to above 10%. Fitch also expects STT to maintain other capital measures, namely the Tier 1 leverage ratio, above regulatory or 'well-capitalized' minimums. Any capital level below a regulatory minimum at either the holding company or operating company level could lead to a negative rating action.

Fitch believes the main threat to STT's business model and ratings would result from a large, idiosyncratic technological/cyber, counterparty, or operational loss leading to reputational damage that causes clients to withdraw assets from the bank. Fitch believes these risks have been well monitored and controlled, but also acknowledges they are inherently difficult to predict and quantify.

A large occurrence that causes a revenue loss of 5% or greater would likely prompt Fitch to consider taking negative rating action. Although not expected, should specific protections within STT's legal structure not hold up and not allow for uninterrupted liquidity availability from the IFE under business as usual, the holding company's VR and IDRs could be notched down accordingly.

Factors that Could, Individually or Collectively, Lead to Positive Rating Action/Upgrade

STT's ratings are already near the top of Fitch's global rated bank universe. As a result, we believe there is limited potential for upward rating momentum.

OTHER DEBT AND ISSUER RATINGS: KEY RATING DRIVERS

Government Support Rating (GSR): STT's GSR of 'ns' reflects Fitch's view that senior creditors can not rely on receiving full extraordinary support from the sovereign in the event that STT becomes non-viable. In Fitch's view, implementation of the Dodd Frank Orderly Liquidation Authority legislation provides a framework for resolving banks that are likely to require holding company senior creditors participating in losses, if necessary, instead of/or ahead of the company receiving sovereign support.

Senior Debt Ratings: STT's senior debt ratings are aligned with the firm's IDRs, as a default on these obligations equates to a default of the holding company.

Subordinated Debt and Other Hybrid Securities: Per Fitch's updated Bank Rating Criteria, STT's preferred stock rating is notched four levels below STT's Viability Rating (VR) of 'aa-', which serves as the anchor rating. It is notched twice for loss severity and twice for non-performance. Consistent with Fitch's base case for notching subordinated debt of bank holding companies classified by the Fed as Category I, II or III, the rating is notched two levels below STT's VR for loss severity.

Government Support Rating (GSR): In Fitch's view, STT's Government Support Rating would be sensitive to any change in U.S. sovereign support, which Fitch believes is unlikely.

OTHER DEBT AND ISSUER RATINGS: RATING SENSITIVITIES

Long-Term and Short-Term Deposit Ratings: The long-term and short-term deposit ratings for SSBT are sensitive to any change to STT's Long-Term and Short-Term IDRs.

Senior Debt Ratings: Senior debt ratings are sensitive to any change in STT's IDRs

Subordinated Debt and Other Hybrid Securities: Subordinated debt and other hybrid ratings are primarily sensitive to any change in STT's VR.

SUBSIDIARIES & AFFILIATES: KEY RATING DRIVERS

SSBT's LT IDR is one notch above its VR, reflecting the implementation of TLAC requirements for U.S. G-SIBs. The VRs remain equalized between State Street and its material operating subsidiaries, namely SSBT. The common VR of State Street and its operating companies reflects the correlated performance or failure rate between State Street and these subsidiaries.

Long-Term and Short-Term Deposit Ratings: SSBT's domestic (uninsured) deposit ratings are one notch higher than its LT IDR, reflecting uninsured depositors' superior recovery prospects in an event of default - given depositor preference in the U.S.

Derivative Counterparty Rating (DCR): SSBT's Derivative Counterparty Rating (DCR) is at the same level as its Long-Term IDRs - given the lack of preferential status over other senior obligations in a resolution scenario; therefore, the DCR will move in line with the IDR.

SUBSIDIARIES AND AFFILIATES: RATING SENSITIVITIES

SSBT's VR would be sensitive to the intrinsic creditworthiness of the group as a whole.

DCR: The DCR is primarily sensitive to a change in SSBT's Long-Term IDR. In addition, it could be upgraded one notch above the IDR if a change in legislation creates legal preference for derivatives over certain other senior obligations and, in Fitch's view, the volume of all legally subordinated obligations provides a substantial enough buffer to protect derivative counterparties from default in a resolution scenario.

Deposit Ratings: Deposit ratings are sensitive to any change in SSBT's IDRs.

VR ADJUSTMENTS

A Business Profile score of 'aa-' has been assigned above the implied score of 'a' due to the following adjustment reason: Market Position (positive).

REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING

The principal sources of information used in the analysis are described in the Applicable Criteria.

ESG Considerations

The highest level of ESG credit relevance is a score of '3', unless otherwise disclosed in this section. A score of '3' means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. Fitch's ESG Relevance Scores are not inputs in the rating process; they are an observation on the relevance and materiality of ESG factors in the rating decision. For more information on Fitch's ESG Relevance Scores, visit https://www.fitchratings.com/topics/esg/products#esg-relevance-scores.

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