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  • 10-Q (Nov 1, 2017)
  • 10-Q (Aug 4, 2017)
  • 10-Q (May 4, 2017)
  • 10-Q (Nov 3, 2016)
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8-K

 
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State Street 10-Q 2014

Documents found in this filing:

  1. 10-Q
  2. Ex-10.1
  3. Ex-12
  4. Ex-15
  5. Ex-31.1
  6. Ex-31.2
  7. Ex-32
  8. Ex-32
STT-2014.09.30_10Q
 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
Form 10-Q

(Mark One)
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2014

OR
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from                      to                     
Commission File No. 001-07511
STATE STREET CORPORATION
(Exact name of registrant as specified in its charter)
Massachusetts
 
04-2456637
(State or other jurisdiction of incorporation)
 
(I.R.S. Employer Identification No.)
One Lincoln Street
Boston, Massachusetts
 
02111
(Address of principal executive office)
 
(Zip Code)
617-786-3000
(Registrant’s telephone number, including area code)
______________________________________________________
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days.  Yes  x   No ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes  x   No ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
    Large accelerated filer  x
 
Accelerated filer  ¨
 
Non-accelerated filer  ¨
 
Smaller reporting company  ¨
 
 
 
 
(Do not check if a smaller reporting company)
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).  Yes  ¨  No  x
The number of shares of the registrant’s common stock outstanding as of October 31, 2014 was 417,495,288.











 




STATE STREET CORPORATION
QUARTERLY REPORT ON FORM 10-Q FOR THE QUARTERLY PERIOD ENDED
September 30, 2014

TABLE OF CONTENTS

 
 
PART I. FINANCIAL INFORMATION
 
PART II. OTHER INFORMATION
 






MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
 
TABLE OF CONTENTS




3


MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS


GENERAL
State Street Corporation, or the parent company, is a financial holding company headquartered in Boston, Massachusetts. Unless otherwise indicated or unless the context requires otherwise, all references in this Management's Discussion and Analysis to “State Street,” “we,” “us,” “our” or similar terms mean State Street Corporation and its subsidiaries on a consolidated basis. Our principal banking subsidiary is State Street Bank and Trust Company, or State Street Bank. As of September 30, 2014, we had consolidated total assets of $274.81 billion, consolidated total deposits of $207.97 billion, consolidated total shareholders' equity of $21.16 billion and 29,510 employees. With $28.47 trillion of assets under custody and administration and $2.42 trillion of assets under management as of September 30, 2014, we are a leading specialist in meeting the needs of institutional investors worldwide.
We have two lines of business:
Investment Servicing provides services for mutual funds, collective investment funds and other investment pools, corporate and public retirement plans, insurance companies, foundations and endowments worldwide. Products include custody; product- and participant-level accounting; daily pricing and administration; master trust and master custody; record-keeping; cash management; foreign exchange, brokerage and other trading services; securities finance; deposit and short-term investment facilities; loans and lease financing; investment manager and alternative investment manager operations outsourcing; and performance, risk and compliance analytics to support institutional investors.
Investment Management, through State Street Global Advisors, or SSgA, provides a broad array of investment management, investment research and investment advisory services to corporations, public funds and other sophisticated investors. SSgA offers active and passive asset management strategies across equity, fixed-income and cash asset classes. Products are distributed directly and through intermediaries using a variety of investment vehicles, including exchange-traded funds, or ETFs, such as the SPDR® ETF brand.
For financial and other information about our lines of business, refer to “Line of Business Information” included in this Management's Discussion and Analysis and note 17 to the consolidated financial statements included in this Form 10-Q.
This Management's Discussion and Analysis is part of our Quarterly Report on Form 10-Q for the
 


quarter ended September 30, 2014, and updates the Management's Discussion and Analysis in our Annual Report on Form 10-K for the year ended December 31, 2013, referred to as our 2013 Form 10-K, and in our Quarterly Reports on Form 10-Q for the quarters ended March 31, 2014 and June 30, 2014, all of which we previously filed with the SEC. You should read the financial information contained in this Management's Discussion and Analysis and elsewhere in this Form 10-Q in conjunction with the financial and other information contained in those reports. Certain previously reported amounts presented in this Form 10-Q have been reclassified to conform to current-period presentation.
We prepare our consolidated financial statements in conformity with accounting principles generally accepted in the U.S., referred to as GAAP. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions in its application of certain accounting policies that materially affect the reported amounts of assets, liabilities, equity, revenue and expenses.
The significant accounting policies that require us to make judgments, estimates and assumptions that are difficult, subjective or complex about matters that are uncertain and may change in subsequent periods consist of accounting for fair value measurements; other-than-temporary impairment of investment securities; and impairment of goodwill and other intangible assets. These significant accounting policies require the most subjective or complex judgments, and underlying estimates and assumptions could be subject to revision as new information becomes available.
Additional information about these significant accounting policies is included under “Significant Accounting Estimates” in Management's Discussion and Analysis in our 2013 Form 10-K. We did not change these significant accounting policies in the first nine months of 2014.
Certain financial information provided in this Management's Discussion and Analysis is prepared on both a GAAP, or reported basis, and a non-GAAP, or operating basis, including certain non-GAAP measures used in the calculation of identified regulatory capital ratios. We measure and compare certain financial information on an operating basis, as we believe that this presentation supports meaningful comparisons from period to period and the analysis of comparable financial trends with respect to State Street's normal ongoing business operations. We believe that operating-basis financial information,


4


MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (Continued)

which reports non-taxable revenue, such as interest revenue associated with tax-exempt investment securities, on a fully taxable-equivalent basis, facilitates an investor's understanding and analysis of State Street's underlying financial performance and trends in addition to financial information prepared and reported in conformity with GAAP.
We also believe that the use of certain non-GAAP measures in the calculation of identified regulatory capital ratios is useful in understanding State Street's capital position and is of interest to investors. Operating-basis financial information should be considered in addition to, not as a substitute for or superior to, financial information prepared in conformity with GAAP. Any non-GAAP, or operating-basis, financial information presented in this Management’s Discussion and Analysis is reconciled to its most directly comparable GAAP-basis measure.
We provide additional disclosures required by applicable bank regulatory standards, including supplemental qualitative and quantitative information with respect to regulatory capital (including market risk associated with our trading activities), and summary results of semi-annual State Street-run stress tests which we conduct under the Dodd-Frank Wall Street Reform and Consumer Protection Act, or Dodd-Frank Act. These additional disclosures are accessible under "Filings and Reports" on the “Investor Relations” section of our corporate website at www.statestreet.com. We have included our website address in this report as an inactive textual reference only. Information on our website is not incorporated by reference into this Form 10-Q.
FORWARD-LOOKING STATEMENTS
This Form 10-Q, as well as other reports submitted by us under the Securities Exchange Act of 1934, registration statements filed by us under the Securities Act of 1933, our annual report to shareholders and other public statements we may make, contain statements (including statements in this Management's Discussion and Analysis) that are considered “forward-looking statements” within the meaning of U.S. securities laws, including statements about our goals and expectations regarding our business, financial and capital condition, results of operations, strategies, financial portfolio performance, dividend and stock purchase programs, market growth, acquisitions, joint ventures and divestitures, new technologies, services and opportunities, and expected outcomes of legal proceedings, as well as regarding industry, regulatory, economic and market trends, initiatives and developments, the business environment and other matters that do not relate strictly to historical facts.
 
Terminology such as “plan,” “expect,” “intend,” “objective,” “forecast,” “outlook,” “believe,” “anticipate,” “estimate,” “seek,” “may,” “will,” “trend,” “target,” “strategy” and “goal,” or similar statements or variations of such terms, are intended to identify forward-looking statements, although not all forward-looking statements contain such terms.
Forward-looking statements are subject to various risks and uncertainties, which change over time, are based on management's expectations and assumptions at the time the statements are made, and are not guarantees of future results. Management's expectations and assumptions, and the continued validity of the forward-looking statements, are subject to change due to a broad range of factors affecting the national and global economies, the equity, debt, currency and other financial markets, as well as factors specific to State Street and its subsidiaries, including State Street Bank. Factors that could cause changes in the expectations or assumptions on which forward-looking statements are based cannot be foreseen with certainty and include, but are not limited to:
the financial strength and continuing viability of the counterparties with which we or our clients do business and to which we have investment, credit or financial exposure, including, for example, the direct and indirect effects on counterparties of the sovereign-debt risks in the U.S., Europe and other regions;
increases in the volatility of, or declines in the level of, our net interest revenue, changes in the composition or valuation of the assets recorded in our consolidated statement of condition (and our ability to measure the fair value of investment securities) and the possibility that we may change the manner in which we fund those assets;
the liquidity of the U.S. and international securities markets, particularly the markets for fixed-income securities and inter-bank credits, and the liquidity requirements of our clients;
the level and volatility of interest rates and the performance and volatility of securities, credit, currency and other markets in the U.S. and internationally;
the credit quality, credit-agency ratings and fair values of the securities in our investment securities portfolio, a deterioration or downgrade of which could lead to other-than-temporary impairment of the respective securities and the recognition of an impairment loss in our consolidated statement of income;


5


MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (Continued)

our ability to attract deposits and other low-cost, short-term funding, and our ability to deploy deposits in a profitable manner consistent with our liquidity requirements and risk profile;
the manner and timing with which the Federal Reserve and other U.S. and non-U.S. regulators implement the Dodd-Frank Act, changes to the Basel III capital framework and European legislation, such as the Alternative Investment Fund Managers Directive and the Undertakings for Collective Investment in Transferable Securities Directives, with respect to the levels of regulatory capital we must maintain, our credit exposure to third parties, margin requirements applicable to derivatives, banking and financial activities and other regulatory initiatives in the U.S. and internationally, including regulatory developments that result in changes to our structure or operating model, increased costs or other changes to how we provide services;
the impact of evolving and increasing regulatory compliance requirements and expectations;
adverse changes in the regulatory capital ratios that we are required or will be required to meet, whether arising under the Dodd-Frank Act or the Basel III capital and liquidity standards, or due to changes in regulatory positions, practices or regulations in jurisdictions in which we engage in banking activities, including changes in internal or external data, formulae, models, assumptions or other advanced systems used in the calculation of our capital ratios that cause changes in those ratios as they are measured from period to period;
increasing requirements to obtain the prior approval of the Federal Reserve or our other U.S. and non-U.S. regulators for the use, allocation or distribution of our capital or other specific capital actions or programs, including acquisitions, dividends and equity purchases, without which our growth plans, distributions to shareholders, equity purchase programs or other capital initiatives may be restricted;
changes in law or regulation, or the enforcement of law or regulation, that may adversely affect our business activities or those of our clients or our counterparties, and the products or services that we sell, including additional or increased taxes or assessments thereon, capital adequacy requirements, margin requirements and changes that expose us to risks related to the
 
adequacy of our controls or compliance programs;
financial market disruptions or economic recession, whether in the U.S., Europe, Asia or other regions;
our ability to promote a strong culture of risk management, operating controls, compliance oversight and governance that meet our expectations and those of our clients and our regulators;
the results of, and costs associated with, governmental or regulatory inquiries and investigations, litigation and similar claims, disputes, or proceedings;
delays or difficulties in the execution of our previously announced Business Operations and Information Technology Transformation program, which could lead to changes in our estimates of the charges, expenses or savings associated with the planned program and may cause volatility of our earnings;
the potential for losses arising from our investments in sponsored investment funds;
the possibility that our clients will incur substantial losses in investment pools for which we act as agent, and the possibility of significant reductions in the liquidity or valuation of assets underlying those pools;
our ability to anticipate and manage the level and timing of redemptions and withdrawals from our collateral pools and other collective investment products;
the credit agency ratings of our debt and depository obligations and investor and client perceptions of our financial strength;
adverse publicity, whether specific to State Street or regarding other industry participants or industry-wide factors, or other reputational harm;
our ability to control operational risks, data security breach risks and outsourcing risks, our ability to protect our intellectual property rights, the possibility of errors in the quantitative models we use to manage our business and the possibility that our controls will prove insufficient, fail or be circumvented;
dependencies on information technology and our ability to control related risks, including cyber-crime and other threats to our information technology infrastructure and systems and their effective operation both independently and with external systems, and complexities and costs of protecting the security of our systems and data;
our ability to grow revenue, control expenses, attract and retain highly skilled people and raise the capital necessary to achieve our


6


MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (Continued)

business goals and comply with regulatory requirements;
changes or potential changes to the competitive environment, including changes due to regulatory and technological changes, the effects of industry consolidation and perceptions of State Street as a suitable service provider or counterparty;
changes or potential changes in how and in what amounts clients compensate us for our services, and the mix of services provided by us that clients choose;
our ability to complete acquisitions, joint ventures and divestitures, including the ability to obtain regulatory approvals, the ability to arrange financing as required and the ability to satisfy closing conditions;
the risks that our acquired businesses and joint ventures will not achieve their anticipated financial and operational benefits or will not be integrated successfully, or that the integration will take longer than anticipated, that expected synergies will not be achieved or unexpected negative synergies will be experienced, that client and deposit retention goals will not be met, that other regulatory or operational challenges will be experienced, and that disruptions from the transaction will harm our relationships with our clients, our employees or regulators;
our ability to recognize emerging needs of our clients and to develop products that are responsive to such trends and profitable to us, the performance of and demand for the products and services we offer, and the potential for new products and services to impose additional costs on us and expose us to increased operational risk;
changes in accounting standards and practices; and
changes in tax legislation and in the interpretation of existing tax laws by U.S. and non-U.S. tax authorities that affect the amount of taxes due.
Actual outcomes and results may differ materially from what is expressed in our forward-looking statements and from our historical financial results due to the factors discussed in this section and elsewhere in this Form 10-Q or disclosed in our other SEC filings, including the risk factors discussed in our 2013 Form 10-K. Forward-looking statements in this Form 10-Q should not be relied on as representing our expectations or beliefs as of any date subsequent to the time this Form 10-Q is filed with the SEC. We undertake no obligation to revise our forward-looking statements after the time they are made. The factors discussed above are not intended
 
to be a complete statement of all risks and uncertainties that may affect our businesses. We cannot anticipate all developments that may adversely affect our business or operations or our consolidated results of operations or financial condition.
Forward-looking statements should not be viewed as predictions, and should not be the primary basis on which investors evaluate State Street. Any investor in State Street should consider all risks and uncertainties disclosed in our SEC filings, including our filings under the Securities Exchange Act of 1934, in particular our annual reports on Form 10-K, our quarterly reports on Form 10-Q and our current reports on Form 8-K, or registration statements filed under the Securities Act of 1933, all of which are accessible on the SEC's website at www.sec.gov or on the “Investor Relations” section of our corporate website at www.statestreet.com.
OVERVIEW OF FINANCIAL RESULTS
The following tables present our financial results for the quarters and nine months ended September 30, 2014 and 2013:
 
Quarters Ended September 30,
 
 
(Dollars in millions, except per share amounts)
2014
 
2013
 
% Change
Total fee revenue
$
2,012

 
$
1,883

 
7
 %
Net interest revenue
570

 
546

 
4

Gains (losses) related to investment securities, net

 
(4
)
 
 
Total revenue
2,582

 
2,425

 
6

Provision for loan losses
2

 

 
 
Total expenses
1,892

 
1,722

 
10

Income before income tax expense
688

 
703

 
(2
)
Income tax expense
128

 
163

 
 
Net income
$
560

 
$
540

 
4

Adjustments to net income:
 
 
 
 
 
Dividends on preferred stock
(18
)
 
(7
)
 
 
Earnings allocated to participating securities

 
(2
)
 
 
Net income available to common shareholders
$
542

 
$
531

 
 
Earnings per common share:
 
 
 
 
 
Basic
$
1.28

 
$
1.20

 
 
Diluted
1.26

 
1.17

 
8

Average common shares outstanding (in thousands):
 
 
 
 
 
Basic
421,974

 
442,860

 
 
Diluted
429,736

 
452,154

 
 
Cash dividends declared per common share
$
.30

 
$
.26

 
 
Return on average common equity
10.6
%
 
10.8
%
 
 


7


MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (Continued)

 
Nine Months Ended September 30,
 
 
(Dollars in millions, except per share amounts)
2014
 
2013
 
% Change
Total fee revenue
$
5,975

 
$
5,711

 
5
 %
Net interest revenue
1,686

 
1,718

 
(2
)
Gains (losses) related to investment securities, net
4

 
(9
)
 
 
Total revenue
7,665

 
7,420

 
3

Provision for loan losses
6

 

 
 
Total expenses
5,770

 
5,346

 
8

Income before income tax expense
1,889

 
2,074

 
(9
)
Income tax expense
344

 
491

 
 
Net income
$
1,545

 
$
1,583

 
(2
)
Adjustments to net income:
 
 
 
 
 
Dividends on preferred stock
(43
)
 
(20
)
 
 
Earnings allocated to participating securities
(2
)
 
(6
)
 
 
Net income available to common shareholders
$
1,500

 
$
1,557

 
 
Earnings per common share:
 
 
 
 
 
Basic
$
3.52

 
$
3.46

 
 
Diluted
3.45

 
3.40

 
1

Average common shares outstanding (in thousands):
 
 
 
 
 
Basic
426,775

 
449,742

 
 
Diluted
434,510

 
458,392

 
 
Cash dividends declared per common share
$
.86

 
$
.78

 
 
Return on average common equity
10.0
%
 
10.4
%
 
 
The following “Highlights” and “Financial Results” sections provide information related to significant events, as well as highlights of our consolidated financial results for the third quarter of 2014. More detailed information about our consolidated financial results, including comparisons of our financial results for the third quarter of 2014 to those for the third quarter of 2013 and for the nine months ended September 30, 2014 to those for the nine months ended September 30, 2013, is provided under “Consolidated Results of Operations,” which follows these sections.
Highlights
In the third quarter of 2014, we purchased approximately 5.8 million shares of our common stock at an average price of $70.61 per share and an aggregate cost of approximately $410 million.
In the third quarter of 2014, we declared a quarterly common stock dividend of $0.30 per share, totaling approximately $126 million, which was paid in October 2014.
Additional information about our common stock purchase program, as well as our
 
common stock dividends, is provided under “Financial Condition – Capital” in this Management's Discussion and Analysis. Information about our common stock purchase program is also provided in Part II Item 2, “Unregistered Sales of Equity Securities and Use of Proceeds,” included in this Form 10-Q.
State Street is registered with the Federal Reserve as a bank holding company pursuant to the Bank Holding Company Act of 1956. The Bank Holding Company Act limits the activities in which we (and non-banking entities that we are deemed to control under that Act) may engage to activities the Federal Reserve considers to be closely related to banking or to managing or controlling banks. Financial holding company status expands the activities permissible for a bank holding company to those that are deemed to be “financial in nature” by the Federal Reserve. State Street elected to become a financial holding company under the Bank Holding Company Act. Financial holding company status requires State Street and its banking subsidiaries to remain well capitalized and well managed and to comply with Community Reinvestment Act obligations. Currently, under the Bank Holding Company Act, we may not be able to engage in new activities or acquire shares or control of other businesses.
In addition, we meet the criteria for a systemically important financial institution under the Dodd-Frank Act and we are one of 29 banking organizations identified as a global systemically important bank, or G-SIB, by the Financial Stability Board. 
Our compliance obligations have increased significantly due to new regulations in the U.S. and internationally that have been adopted or proposed in response to the financial crisis. As a systemically important financial institution, we are subject to enhanced supervision and prudential standards. In Europe, certain of our European banking subsidiaries are subject to the European Central Bank's new supervisory authority. Our status as a G-SIB has also resulted in heightened prudential and conduct expectations of our U.S., non-U.S. and international regulators with respect to our capital and liquidity management and our compliance and risk oversight programs. These heightened expectations have increased our regulatory compliance costs,


8


MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (Continued)

including personnel and systems, as well as significant additional implementation and related costs to enhance our programs.
In addition, we and other large banking organizations are required under the Dodd-Frank Act to periodically submit a resolution plan to the Federal Reserve and the Federal Deposit Insurance Corporation, or FDIC, describing our strategy for rapid and orderly resolution in the event of material financial distress or failure.  In August 2014, the Federal Reserve and the FDIC announced the completion of their reviews of resolution plans submitted in 2013 by 11 large, complex banking organizations, including State Street, under the requirements of the Dodd-Frank Act, and informed each of these organizations of specific shortcomings with their respective 2013 resolution plans. If we fail to meet regulatory expectations to the satisfaction of the Federal Reserve and the FDIC in the submission of our 2015 resolution plan, we could be subject to more stringent capital, leverage or liquidity requirements, restrictions on our growth, activities or operations, or be required to divest certain of our assets or operations.
Financial Results
Total revenue in the third quarter of 2014 increased 6%, and total fee revenue increased 7%, compared to the third quarter of 2013. Increases in servicing fee and management fee revenue, trading services revenue, net interest revenue and securities finance revenue were partly offset by a decline in processing fees and other revenue.
Servicing fee revenue in the third quarter of 2014 increased 8% compared to the third quarter of 2013, mainly the result of stronger global equity markets and the positive revenue impact of net new business. Servicing fees generated outside the U.S. in both the third quarter of 2014 and the third quarter of 2013 were approximately 42% of total servicing fees for those periods.
Management fee revenue increased 14% in the third quarter of 2014 compared to the third quarter of 2013, primarily the result of stronger global equity markets, net inflows, higher performance fees and the positive revenue impact of net new business. Management fees generated outside the U.S. in the third quarter of 2014 and the third quarter of 2013 were approximately 38% and 37%, respectively, of total management fees for those periods.
 
In the third quarter of 2014, trading services revenue, composed of revenue generated by foreign exchange trading and revenue from brokerage and other trading services, increased 5% compared to the third quarter of 2013. Revenue from foreign exchange trading increased 10%, with direct sales and trading foreign exchange revenue up 39% and estimated indirect foreign exchange revenue down 21%, from the third quarter of 2013. Direct sales and trading foreign exchange revenue benefited from higher volumes, while indirect foreign exchange revenue declined mainly due to lower volatility and lower spreads.
Securities finance revenue increased 34% in the third quarter of 2014 compared to the third quarter of 2013, mainly reflective of growth in our enhanced custody business, where we participate in securities finance transactions as a principal, and the impact of higher lending volumes associated with our agency lending program.
Net interest revenue in the third quarter of 2014 increased 4% compared to the third quarter of 2013, primarily driven by the investment of a higher level of client deposits, an increase in the investment portfolio, and our continued investment in senior secured bank loans in the third quarter of 2014.
Net interest margin, calculated on fully taxable-equivalent net interest revenue, declined 21 basis points to 1.12% in the third quarter of 2014 from 1.33% in the third quarter of 2013. Continued elevated levels of client deposits increased our average interest-earning assets, but negatively affected our net interest margin, as we placed a portion of these deposits with U.S. and non-U.S. central banks and earned the relatively low interest rates paid by the central banks on those balances.
Fully taxable-equivalent net interest revenue and net interest margin are discussed in more detail under “Consolidated Results of Operations - Net Interest Revenue” in this Management's Discussion and Analysis.
Total expenses in the third quarter of 2014 increased 10% compared to the third quarter of 2013. Compensation and employee benefits expenses increased 6% in the quarterly comparison, primarily due to costs for additional staffing to support new business, the impact of merit increases and promotions, and higher regulatory compliance costs. These aggregate


9


MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (Continued)

increases were partly offset by savings generated from the implementation of our Business Operations and Information Technology Transformation program.
Other expenses increased 40% in the third quarter of 2014 compared to the third quarter of 2013, primarily due to a legal accrual (refer to "Consolidated Results of Operations - Trading Services Revenue" in this Management's Discussion and Analysis) and a charitable contribution to the State Street Foundation, as well as the impact of gains and recoveries associated with Lehman Brothers-related assets recorded in the third quarter of 2013.
We anticipate that evolving and increasing regulatory compliance requirements and expectations will continue to affect our expenses. Our employee compensation and benefits, information systems and other expenses could increase, as we further adjust our operations in response to new or proposed requirements and heightened expectations.
With respect to our Business Operations and Information Technology Transformation program, we expect to achieve additional pre-tax expense savings for full-year 2014 of approximately $130 million. These pre-tax expense savings relate only to the Business Operations and Information Technology Transformation program and are based on projected improvement from our total 2010 expenses from operations, all else being equal. Our actual total expenses have increased since 2010, and may in the future increase or decrease, due to other factors.
Additional information with respect to our expenses, including our Business Operations and Information Technology Transformation program, is provided under “Consolidated Results of Operations - Expenses” in this Management's Discussion and Analysis.
In the third quarter of 2014, we secured an estimated $302 billion of new business in assets to be serviced; of that total, approximately $173 billion was installed prior to September 30, 2014, with the remaining $129 billion expected to be installed in the remainder of 2014 or later. In the third quarter of 2014, we also installed approximately $121 billion of new asset servicing business that we were awarded in prior periods. As of September 30, 2014, we had an estimated $250 billion of new business in assets to be serviced, including
 
the $129 billion referenced above, which remained to be installed in future periods. New business in assets to be serviced includes assets from new servicing clients, as well as additional assets to be serviced for existing clients.
The new business not installed by September 30, 2014 was not included in our assets under custody and administration as of that date, and had no impact on our servicing fee revenue in the third quarter of 2014, as the assets are not included until their installation is complete and we begin to service them. Once installed, the assets generate servicing fee revenue in subsequent periods in which the assets are serviced.
With respect to these new assets, we will provide various services, including accounting, bank loan servicing, compliance reporting and monitoring, custody, depository banking services, foreign exchange, fund administration, hedge fund servicing, middle-office outsourcing, performance and analytics, private equity administration, real estate administration, securities finance, transfer agency, and wealth management services.
In the third quarter of 2014, SSgA added approximately $3 billion of net new business in assets to be managed, composed primarily of approximately $8 billion of net inflows, substantially into ETFs and managed cash, partly offset by net outflows of approximately $5 billion from institutional products.
In addition, approximately $1 billion of new business awarded to SSgA but not installed by September 30, 2014 was not included in our assets under management as of that date, and had no impact on our management fee revenue for the third quarter of 2014, as the assets are not included until their installation is complete and we begin to manage them. Once installed, the assets generate management fee revenue in subsequent periods in which the assets are managed.
CONSOLIDATED RESULTS OF OPERATIONS
This section discusses our consolidated results of operations for the third quarter and first nine months of 2014 compared to the same periods in 2013 in more detail, and should be read in conjunction with the consolidated financial statements and accompanying condensed notes included in this Form 10-Q.


10


MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (Continued)

Total Revenue
Additional information with respect to the sources of our revenue, the products and activities that generate it, and the factors that influence the levels of revenue generated during any period is provided under “Consolidated Results of Operations – Total Revenue” in Management’s Discussion and Analysis included in our 2013 Form 10-K.
The following tables present the components of total revenue for the periods indicated:
 
Quarters Ended September 30,
 
 
 
2014
 
2013
 
% Change
(Dollars in millions)
 
 
 
 
 
Fee revenue:
 
 
 
 
 
Servicing fees
$
1,302

 
$
1,211

 
8
 %
Management fees
316

 
276

 
14

Trading services:
 
 
 
 
 
Foreign exchange trading
161

 
147

 
10

Brokerage and other trading services
117

 
118

 
(1
)
Total trading services
278

 
265

 
5

Securities finance
99

 
74

 
34

Processing fees and other
17

 
57

 
(70
)
Total fee revenue
2,012

 
1,883

 
7

Net interest revenue:
 
 
 
 
 
   Interest revenue
671

 
643

 
4

   Interest expense
101

 
97

 
4

Net interest revenue
570

 
546

 
4

Gains (losses) related to investment securities, net

 
(4
)
 
 
Total revenue
$
2,582

 
$
2,425

 
6

 
Nine Months Ended September 30,
 
 
(Dollars in millions)
2014
 
2013
 
% Change
Fee revenue:
 
 
 
 
 
Servicing fees
$
3,828

 
$
3,587

 
7
 %
Management fees
908

 
816

 
11

Trading services:
 
 
 
 


Foreign exchange trading
439

 
464

 
(5
)
Brokerage and other trading services
352

 
394

 
(11
)
Total trading services
791

 
858

 
(8
)
Securities finance
331

 
283

 
17

Processing fees and other
117

 
167

 
(30
)
Total fee revenue
5,975

 
5,711

 
5

Net interest revenue:
 
 
 
 
 
   Interest revenue
1,976

 
2,030

 
(3
)
   Interest expense
290

 
312

 
(7
)
Net interest revenue
1,686

 
1,718

 
(2
)
Gains (losses) related to investment securities, net
4

 
(9
)
 
 
Total revenue
$
7,665

 
$
7,420

 
3

 
Fee Revenue
Servicing and management fees collectively composed approximately 80% and 79% of our total fee revenue in the third quarter and first nine months of 2014, respectively, compared to approximately 79% and 77%, respectively, for the corresponding periods in 2013. The level of these fees is influenced by several factors, including the mix and volume of our assets under custody and administration and our assets under management, the value and type of securities positions held (with respect to assets under custody) and the volume of portfolio transactions, and the types of products and services used by our clients, and is generally affected by changes in worldwide equity and fixed-income security valuations and trends in market asset class preferences.
 Generally, servicing fees are affected by changes in daily average valuations of assets under custody and administration. Additional factors, such as the relative mix of assets serviced, the level of transaction volumes, changes in service level, the nature of services provided, balance credits, client minimum balances, pricing concessions and other factors, may have a significant effect on our servicing fee revenue.
Generally, management fees are affected by changes in month-end valuations of assets under management. Management fees for certain components of managed assets, such as ETFs, are affected by daily average valuations of assets under management. Management fee revenue is more sensitive to market valuations than servicing fee revenue, since a higher proportion of the underlying services provided, and the associated management fees earned, are dependent on equity and fixed-income security valuations. Additional factors, such as the relative mix of assets managed, changes in service level and other factors, may have a significant effect on our management fee revenue. While certain management fees are directly determined by the values of assets under management and the investment strategies employed, management fees may reflect other factors as well, including performance fee arrangements, discussed later in this section, as well as our relationship pricing for clients using multiple services.
Asset-based management fees for actively-managed products are generally charged at a higher percentage of assets under management than for passive products. Actively-managed products may also include performance fee arrangements. Performance fees are generated when the performance of certain managed portfolios exceeds benchmarks specified in the management agreements. Generally, we experience more volatility with performance fees than with more traditional management fees.


11


MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (Continued)

In light of the above, we estimate, using relevant information as of September 30, 2014 and assuming that all other factors remain constant, that: (1) a 10% increase or decrease, over the relevant periods on which our servicing and management fees are calculated, in worldwide equity valuations would result in a corresponding change in our total revenue of approximately 2%; and (2) a 10% increase or decrease, over the relevant periods for or on which our servicing and management fees are calculated, in worldwide fixed-income security valuations would result in a corresponding change in our total revenue of approximately 1%.
The following table presents selected equity market indices. While the specific indices presented
 
are indicative of general market trends, the asset types and classes relevant to individual client portfolios can and do differ, and the performance of associated relevant indices can therefore differ from the performance of the indices presented.
Daily averages and the averages of month-end indices demonstrate worldwide changes in equity markets that affect our servicing and management fee revenue. Quarter-end indices affect the values of assets under custody and administration and assets under management as of those dates. The index names listed in the table are service marks of their respective owners.

INDEX
 
Daily Averages of Indices
 
Averages of Month-End Indices
 
Quarter-End Indices
 
Quarters Ended September 30,
 
Quarters Ended September 30,
 
As of September 30,
 
2014
 
2013
 
% Change
 
2014
 
2013
 
% Change
 
2014
 
2013
 
% Change
S&P 500®
1,976

 
1,675

 
18
%
 
1,969

 
1,667

 
18
%
 
1,972

 
1,682

 
17
%
NASDAQ®
4,483

 
3,641

 
23

 
4,481

 
3,663

 
22

 
4,493

 
3,771

 
19

MSCI EAFE®
1,924

 
1,748

 
10

 
1,901

 
1,747

 
9

 
1,846

 
1,818

 
2

 
Daily Averages of Indices
 
Averages of Month-End Indices
 
 
 
Nine Months Ended September 30,
 
Nine Months Ended September 30,
 
 
 
2014
 
2013
 
% Change
 
2014
 
2013
 
% Change
 
 
 
 
 
 
S&P 500®
1,905

 
1,601

 
19
%
 
1,910

 
1,602

 
19
%
 
 
 
 
 


NASDAQ®
4,298

 
3,400

 
26

 
4,313

 
3,416

 
26

 
 
 
 
 


MSCI EAFE®
1,920

 
1,708

 
12

 
1,918

 
1,707

 
12

 
 
 
 
 



12


MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (Continued)

The following tables present the components of fee revenue for the periods indicated:
FEE REVENUE
 
Quarters Ended September 30,
 
 
(Dollars in millions)
2014
 
2013
 
% Change
Servicing fees
$
1,302

 
$
1,211

 
8
 %
Management fees
316

 
276

 
14

Trading services:
 
 
 
 
 
   Foreign exchange trading
161

 
147

 
10

Brokerage and other trading services
117

 
118

 
(1
)
   Total trading services
278

 
265

 
5

Securities finance
99

 
74

 
34

Processing fees and other
17

 
57

 
(70
)
Total fee revenue
$
2,012

 
$
1,883

 
7

 
Nine Months Ended September 30,
 
 
(Dollars in millions)
2014
 
2013
 
% Change
Servicing fees
$
3,828

 
$
3,587

 
7
 %
Management fees
908

 
816

 
11

Trading services:
 
 
 
 
 
   Foreign exchange trading
439

 
464

 
(5
)
Brokerage and other trading services
352

 
394

 
(11
)
   Total trading services
791

 
858

 
(8
)
Securities finance
331

 
283

 
17

Processing fees and other
117

 
167

 
(30
)
Total fee revenue
$
5,975

 
$
5,711

 
5

Servicing Fees
Increases in servicing fees in the third quarter and first nine months of 2014 compared to the third quarter and first nine months of 2013 resulted primarily from stronger global equity markets and the positive revenue impact of net new business (revenue added from new servicing business installed less revenue lost from the removal of assets serviced). The increase in the nine-month comparison also reflected the positive impact of foreign currency translation.
For both the third quarter and first nine months of 2014, servicing fees generated outside the U.S. were approximately 42% of total servicing fees, compared to approximately 42% and 41% for the third quarter and first nine months of 2013, respectively.
We are responding to subpoenas from the Department of Justice and the SEC for information regarding our solicitation of asset servicing business of public retirement plans. We have retained counsel to conduct a review of these matters, including our use of consultants and lobbyists in our solicitation of business of public retirement plans and, in at least one instance, political contributions by one of our consultants during and after a public bidding process. While we are
 
unable to predict the outcome of these matters, adverse outcomes could have a material adverse effect on our business and reputation.
The following tables present the components, financial instrument mix and geographic mix of assets under custody and administration, as of the dates indicated:
COMPONENTS OF ASSETS UNDER CUSTODY AND ADMINISTRATION
(In billions)
 
September 30, 2014
 
December 31, 2013
 
September 30, 2013
Mutual funds
 
$
7,035

 
$
6,811

 
$
6,524

Collective funds
 
6,919

 
6,428

 
6,013

Pension products
 
5,780

 
5,851

 
5,446

Insurance and other products
 
8,731

 
8,337

 
8,050

Total
 
$
28,465

 
$
27,427

 
$
26,033

FINANCIAL INSTRUMENT MIX OF ASSETS UNDER CUSTODY AND ADMINISTRATION
(In billions)
 
September 30, 2014
 
December 31, 2013
 
September 30, 2013
Equities
 
$
15,616

 
$
15,050

 
$
13,849

Fixed-income
 
9,298

 
9,072

 
8,894

Short-term and other investments
 
3,551

 
3,305

 
3,290

Total
 
$
28,465

 
$
27,427

 
$
26,033

GEOGRAPHIC MIX OF ASSETS UNDER CUSTODY AND ADMINISTRATION(1) 
(In billions)
 
September 30, 2014
 
December 31, 2013
 
September 30, 2013
North America
 
$
21,255

 
$
20,764

 
$
19,737

Europe/Middle East/Africa
 
5,869

 
5,511

 
5,219

Asia/Pacific
 
1,341

 
1,152

 
1,077

Total
 
$
28,465

 
$
27,427

 
$
26,033

 
 
(1) Geographic mix is based on the location at which the assets are serviced.
The increases in total assets under custody and administration as of September 30, 2014 compared to both December 31, 2013 and September 30, 2013, resulted primarily from stronger global equity markets and net shareholder subscriptions experienced by our custody clients, partly offset by net losses of assets serviced. Asset levels as of September 30, 2014 did not reflect the estimated $250 billion of new business in assets to be serviced awarded to us in the third quarter of 2014 and prior periods but not installed prior to September 30, 2014. This new business will be reflected in assets under custody and administration in


13


MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (Continued)

future periods after installation and will generate servicing fee revenue in subsequent periods.
The value of assets under custody and administration is a broad measure of the relative size of various markets served. Changes in the values of assets under custody and administration from period to period do not necessarily result in proportional changes in our servicing fee revenue.
Management Fees
Increases in management fees in the third quarter and first nine months of 2014 compared to the same periods in 2013 resulted primarily from stronger global equity markets, net inflows, higher performance fees and, in the quarterly comparison, the positive revenue impact of the excess of revenue added from newly installed assets to be managed over the revenue lost from liquidations of managed assets. For the third quarter and first nine months of 2014, management fees generated outside the U.S. were approximately 38% and 37%, respectively, of total management fees, compared to approximately 37% and 36%, respectively, for the same periods in 2013.
The following tables present assets under management by asset class and investment approach, ETFs by asset class, and the geographic mix of assets under management, as of the dates indicated:
 
ASSETS UNDER MANAGEMENT BY ASSET CLASS AND INVESTMENT APPROACH(1) 
(In billions)
 
September 30, 2014
 
December 31, 2013
 
September 30, 2013
Equity:
 
 
 
 
 
 
   Active
 
$
40

 
$
42

 
$
41

   Passive
 
1,371

 
1,334

 
1,228

Total Equity
 
1,411

 
1,376

 
1,269

Fixed-Income:
 
 
 
 
 
 
   Active
 
16

 
16

 
17

   Passive
 
322

 
311

 
314

Total Fixed-Income
 
338

 
327

 
331

Cash(2)
 
410

 
385

 
386

Multi-Asset-Class Solutions:
 
 
 
 
 
 
   Active
 
34

 
23

 
23

   Passive
 
104

 
110

 
105

Total Multi-Asset-Class Solutions
 
138

 
133

 
128

Alternative Investments(3):
 
 
 
 
 
 
   Active
 
17

 
14

 
14

   Passive
 
107

 
110

 
113

Total Alternative Investments
 
124

 
124

 
127

Total
 
$
2,421

 
$
2,345

 
$
2,241

 
 
(1) As of December 31, 2013, the presentation was changed to align with the reporting of core businesses. Amounts reported as of September 30, 2013 have been adjusted for comparative purposes.
(2) Includes both floating- and constant-net-asset-value portfolios held in commingled structures or separate accounts.
(3) Includes real estate investment trusts, currency and commodities, including SPDR® Gold Fund, for which State Street is not the investment manager, but acts as distribution agent.
EXCHANGE-TRADED FUNDS BY ASSET CLASS(1)(2) 
(In billions)
 
September 30, 2014
 
December 31, 2013
 
September 30, 2013
Alternative investments
 
$
40

 
$
39

 
$
46

Cash
 
1

 
1

 
2

Equity
 
338

 
325

 
280

Fixed-income
 
37

 
34

 
33

Total Exchange-Traded Funds
 
$
416

 
$
399

 
$
361

 
 
(1) Exchange-traded funds are a component of assets under management presented in the preceding table.
(2) Includes SPDR® Gold Fund, for which State Street is not the investment manager, but acts as distribution agent.


14


MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (Continued)

GEOGRAPHIC MIX OF ASSETS UNDER MANAGEMENT(1) 
(In billions)
 
September 30, 2014
 
December 31, 2013
 
September 30, 2013
North America
 
$
1,502

 
$
1,456

 
$
1,388

Europe/Middle East/Africa
 
565

 
560

 
537

Asia/Pacific
 
354

 
329

 
316

Total
 
$
2,421

 
$
2,345

 
$
2,241

 
 
(1) Geographic mix is based on client location or fund management location. Amounts reported as of September 30, 2013 were adjusted for comparative purposes to reflect realignment of reporting.
 
The increase in total assets under management as of September 30, 2014 compared to December 31, 2013 resulted primarily from net market appreciation during the first nine months of 2014 in the values of the assets managed and net new business of approximately $21 billion, partly offset by the impact of the stronger U.S. dollar. The net new business of approximately $21 billion was primarily composed of approximately $28 billion of net inflows into money market funds, partly offset by net outflows of approximately $5 billion from long-term institutional portfolios and approximately $2 billion from ETFs.

The following table presents activity in assets under management, by product category, for the twelve months ended September 30, 2014:
ASSETS UNDER MANAGEMENT
(In billions)
Equity
 
Fixed-Income
 
Cash
 
Multi-Asset-Class Solutions
 
Alternative Investments
 
Total
Balance as of September 30, 2013
$
1,269

 
$
331

 
$
386

 
$
128

 
$
127

 
$
2,241

Long-term institutional inflows(1)
66

 
15

 

 
11

 
6

 
98

Long-term institutional outflows(1)
(79
)
 
(17
)
 

 
(9
)
 
(6
)
 
(111
)
Long-term institutional flows, net
(13
)
 
(2
)
 

 
2

 

 
(13
)
ETF flows, net
22

 
1

 

 

 
(4
)
 
19

Cash fund flows, net

 

 
(1
)
 

 

 
(1
)
Total flows, net
9

 
(1
)
 
(1
)
 
2

 
(4
)
 
5

Market appreciation(2)
102

 
1

 

 
2

 
2

 
107

Foreign exchange impact(2)
(4
)
 
(4
)
 

 
1

 
(1
)
 
(8
)
Total market/foreign exchange impact
98

 
(3
)
 

 
3

 
1

 
99

Balance as of December 31, 2013
1,376

 
327

 
385

 
133

 
124

 
2,345

Long-term institutional inflows(1)
199

 
60

 

 
36

 
9

 
304

Long-term institutional outflows(1)
(216
)
 
(58
)
 

 
(27
)
 
(8
)
 
(309
)
Long-term institutional flows, net
(17
)
 
2

 

 
9

 
1

 
(5
)
ETF flows, net
(6
)
 
4

 

 

 

 
(2
)
Cash fund flows, net

 

 
28

 

 

 
28

Total flows, net
(23
)
 
6

 
28

 
9

 
1

 
21

Market appreciation(2)
74

 
13

 

 
(1
)
 
2

 
88

Foreign exchange impact(2)
(16
)
 
(8
)
 
(3
)
 
(3
)
 
(3
)
 
(33
)
Total market/foreign exchange impact
58

 
5

 
(3
)
 
(4
)
 
(1
)
 
55

Balance as of September 30, 2014
$
1,411

 
$
338

 
$
410

 
$
138

 
$
124

 
$
2,421

 
 
(1) Amounts represent long-term portfolios, excluding ETFs.
(2) Amounts represent aggregate impact on each product category for the period.
The net new business of approximately $21 billion in the first nine months of 2014 presented in the preceding table did not include approximately $1 billion of new asset management business, substantially all of which was awarded to SSgA in the third quarter of 2014 but not installed prior to September 30, 2014. This new business will be reflected in assets under management in future periods after installation, and will
 
generate management fee revenue in subsequent periods.
Total assets under management as of September 30, 2014 included managed assets lost but not yet liquidated. Lost business occurs from time to time and it is difficult to predict the timing of client behavior in transitioning these assets. This timing can vary significantly.


15


MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (Continued)

Trading Services
The following tables summarize the components of trading services revenue for the periods indicated:
 
Quarters Ended September 30,
 
 
(Dollars in millions)
2014
 
2013
 
% Change
Foreign exchange trading:
 
 
 
 
 
   Direct sales and trading
$
103

 
$
74

 
39
 %
   Indirect foreign exchange trading
58

 
73

 
(21
)
   Total foreign exchange trading
161

 
147

 
10

Brokerage and other trading services:
 
 
 
 
 
Electronic foreign exchange trading
52

 
57

 
(9
)
Other trading, transition management and brokerage
65

 
61

 
7

Total brokerage and other trading services
117

 
118

 
(1
)
Total trading services revenue
$
278

 
$
265

 
5

 
Nine Months Ended September 30,
 
 
(Dollars in millions)
2014
 
2013
 
% Change
Foreign exchange trading:
 
 
 
 
 
   Direct sales and trading
$
253

 
$
241

 
5
 %
   Indirect foreign exchange trading
186

 
223

 
(17
)
   Total foreign exchange trading
439

 
464

 
(5
)
Brokerage and other trading services:
 
 
 
 
 
Electronic foreign exchange trading
160

 
199

 
(20
)
Other trading, transition management and brokerage
192

 
195

 
(2
)
Total brokerage and other trading services
352

 
394

 
(11
)
Total trading services revenue
$
791

 
$
858

 
(8
)
Trading services revenue is composed of revenue generated by foreign exchange, or FX, trading, as well as revenue generated by brokerage and other trading services. We earn FX trading revenue by acting as a principal market maker. We offer a range of FX products, services and execution models. Most of our FX products and execution services can be grouped into three broad categories, which are further explained below: “direct sales and trading FX,” “indirect FX” and “electronic FX trading.” With respect to electronic FX trading, we provide an execution venue but do not act as agent or principal.
We also offer a range of brokerage and other trading products tailored specifically to meet the needs of the global pension community, including transition management and commission recapture. In addition, we act as distribution agent for the SPDR® Gold ETF. These products and services are generally differentiated by our role as an agent of the institutional investor. Revenue earned from these
 
services is recorded in other trading, transition management and brokerage revenue within brokerage and other trading services revenue.
FX trading revenue is influenced by three principal factors: the volume and type of client FX transactions and related spreads; currency volatility; and the management of market risk associated with currencies and interest rates. Revenue earned from direct sales and trading FX and indirect FX is recorded in FX trading revenue. Revenue earned from electronic FX trading is recorded in brokerage and other trading services revenue.
The changes in total trading services revenue in the third quarter and first nine months of 2014 compared to the same periods in 2013, composed of changes related to FX trading and brokerage and other trading services, are explained below.
Total FX trading revenue increased 10% in the third quarter of 2014 compared to the third quarter of 2013, primarily the result of higher client volumes. The 5% decrease in the first nine months of 2014 compared to the first nine months of 2013 was primarily the result of lower currency volatility and spreads, partly offset by higher client volumes in direct sales and trading.
We enter into FX transactions with clients and investment managers that contact our trading desk directly. These trades are all executed at negotiated rates. We refer to this activity, and our principal market-making activities, as “direct sales and trading FX.” Alternatively, clients or their investment managers may elect to route FX transactions to our FX desk through our asset-servicing operation; we refer to this activity as “indirect FX.” We execute indirect FX trades as a principal at rates disclosed to our clients. We calculate revenue for indirect FX using an attribution methodology based on estimated effective mark-ups/downs and observed client volumes. All other FX trading revenue, other than this indirect FX revenue estimate, is considered by us to be direct sales and trading FX revenue.
Our clients that utilize indirect FX can, in addition to executing their FX transactions through dealers not affiliated with us, transition from indirect FX to either direct sales and trading FX execution, including our “Street FX” service, or to one of our electronic trading platforms. Street FX, in which State Street continues to act as a principal market maker, enables our clients to define their FX execution strategy and automate the FX trade execution process.
For the third quarter and first nine months of 2014, our estimated indirect FX revenue decreased 21% and 17%, respectively, compared to the same periods in 2013. The declines mainly resulted from


16


MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (Continued)

lower currency volatility and spreads. For the third quarter and first nine months of 2014 compared to the same periods in 2013, our direct sales and trading FX revenue increased 39% and 5%, respectively. The increases primarily resulted from higher client volumes, partly offset by lower currency volatility and spreads.
In the third quarter of 2014, we recorded a pre-tax legal accrual of approximately $70 million, or $53 million after-tax, in connection with management’s intention to seek to resolve some, but not all, of the outstanding and potential claims arising out of our indirect FX client activities. This accrual is more fully discussed under "Legal and Regulatory Matters" in note 8 to the consolidated financial statements included in this Form 10-Q.
We continue to expect that some clients may choose, over time, to reduce their level of indirect FX transactions in favor of other execution methods, including either direct FX transactions or electronic FX trading which we provide. To the extent that clients shift to other execution methods that we provide, our FX trading revenue may decrease, even if volumes remain consistent.
Participants in the foreign exchange industry are reported to be experiencing governmental scrutiny and litigation concerning alleged manipulation in foreign exchange markets, particularly with respect to published benchmarks. We are enhancing our monitoring with respect to foreign exchange transactions and communications by foreign exchange traders. We have also commenced, but have not completed, an internal review of communications in the inter-bank market and have been advising certain U.S. and non-U.S. government agencies of the results of such review. Our business may become subject to material governmental review or proceedings or the assertion of material claims.
Total brokerage and other trading services revenue in the third quarter of 2014 decreased 1% compared to the third quarter of 2013, and in the first nine months of 2014 declined 11% compared to the first nine months of 2013. Our clients may choose to execute FX transactions through one of our electronic trading platforms. These transactions generate revenue through a “click” fee. Revenue from such electronic FX trading declined 9% and 20% in the third quarter and first nine months of 2014, respectively, compared to the same periods in 2013, mainly due to declines in client volumes.
In the third quarter of 2014, other trading, transition management and brokerage revenue increased 7% compared to the third quarter of 2013 primarily due to an increase in currency management revenue, partly offset by declines in distribution fees associated with the SPDR® Gold ETF, which resulted
 
from outflows as average gold prices declined during the period. In the first nine months of 2014, other trading, transition management and brokerage revenue declined 2% compared to the same period in 2013. The decrease was primarily due to declines in distribution fees associated with the SPDR® Gold ETF, which resulted from outflows as average gold prices declined during the period, partly offset by an increase in currency management revenue. With respect to the SPDR® Gold ETF, fees earned by us as distribution agent are recorded in other trading, transition management and brokerage revenue within brokerage and other trading services revenue, and not in management fee revenue.
Our revenue from transition management and related expenses in the first nine months of 2014, as well as in full years 2013, 2012 and 2011, were adversely affected by compliance issues in our U.K. business, the reputational and regulatory impact of which may continue to adversely affect our transition management revenue in future periods.
Securities Finance
Our agency securities finance business consists of two components: an agency lending program for SSgA-managed investment funds with a broad range of investment objectives, which we refer to as the SSgA lending funds, and an agency lending program for third-party investment managers and asset owners, which we refer to as the agency lending funds.
Securities finance revenue earned from our agency lending activities, which is composed of our split of both the spreads related to cash collateral and the fees related to non-cash collateral, is principally a function of the volume of securities on loan, the interest-rate spreads and fees earned on the underlying collateral, and our share of the fee split.
 We also participate in securities lending transactions as a principal, which we refer to as our enhanced custody business. As principal, we borrow securities from the lending client and then lend such securities to the subsequent borrower, either a State Street client or a broker/dealer. Our involvement as principal is utilized when the lending client is unable to, or elects not to, transact directly with the market and requires us to execute the transaction and furnish the securities. In our role as principal, we provide support to the transaction through our credit rating. While we source a significant proportion of the securities furnished by us in our role as principal from third parties, we have the ability to source securities through our assets under custody and administration, from clients who have designated State Street as an eligible borrower.
Securities finance revenue in the third quarter and first nine months of 2014 increased 34% and 17%, respectively, compared to the same periods in 2013.


17


MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS (Continued)

The quarter-over-quarter increase was mainly the result of growth in our enhanced custody business and the impact of higher lending volumes associated with our agency lending program. The increase in the nine-month comparison was mainly the result of growth in our enhanced custody business.
Market influences may continue to affect client demand for securities finance, and as a result our revenue from, and the profitability of, our securities lending activities in future periods. In addition, proposed or anticipated regulatory changes may affect the volume of our securities lending activity and related revenue and profitability in future periods.
Processing Fees and Other
Processing fees and other revenue declined 70% and 30% in the third quarter and first nine months of 2014, respectively, compared to the same periods in 2013. The decrease was mainly due to higher amortization of tax-advantaged investments, partly offset by higher revenue from our investment in bank-owned life insurance.
 
Net Interest Revenue
Net interest revenue is defined as interest revenue earned on interest-earning assets less interest expense incurred on interest-bearing liabilities. Interest-earning assets, which principally consist of investment securities, interest-bearing deposits with banks, repurchase agreements, loans and leases and other liquid assets, are financed primarily by client deposits, short-term borrowings and long-term debt. Net interest margin represents the relationship between annualized fully taxable-equivalent net interest revenue and average total interest-earning assets for the period. Revenue that is exempt from income taxes, mainly that earned from certain investment securities (state and political subdivisions), is adjusted to a fully taxable-equivalent basis using a federal statutory income tax rate of 35%, adjusted for applicable state income taxes, net of the related federal tax benefit.

The following tables present the components of average interest-earning assets and average interest-bearing liabilities, related interest revenue and interest expense, and rates earned and paid, for the periods indicated:
 
Quarters Ended September 30,
 
2014
 
2013
(Dollars in millions; fully taxable-equivalent basis)
Average
Balance
 
Interest
Revenue/
Expense
 
Rate
 
Average
Balance
 
Interest
Revenue/
Expense
 
Rate
Interest-bearing deposits with banks
$
63,160

 
$
53

 
.33
%
 
$
25,270

 
$
29

 
.46
%
Securities purchased under resale agreements
3,249

 
9

 
1.05

 
5,895

 
8

 
.54

Trading account assets
985

 

 

 
802

 

 

Investment securities
117,618

 
586

 
1.99

 
115,552

 
582

 
2.02

Loans and leases
16,002

 
64

 
1.59

 
13,859

 
58

 
1.66

Other interest-earning assets
17,003

 
2

 
.05

 
11,927

 
1

 
.02

Average total interest-earning assets
$
218,017

 
$
714

 
1.30

 
$
173,305

 
$
678

 
1.56

Interest-bearing deposits:
 
 
 
 
 
 
 
 
 
 
 
U.S.
$
24,144

 
$
7

 
0.11
%
 
$
5,735

 
$
1

 
.06
%
Non-U.S.
114,756

 
26

 
0.09

 
99,253

 
16

 
.06

Securities sold under repurchase agreements
9,111

 

 

 
8,757

 

 

Federal funds purchased
18

 

 

 
247

 

 

Other short-term borrowings
4,376

 

 

 
3,413

 
15

 
1.63

Long-term debt
9,020

 
60

 
2.64

 
8,824

 
59

 
2.67

Other interest-bearing liabilities
7,386

 
8

 
0.42

 
6,777

 
6

 
.35

Average total interest-bearing liabilities
$
168,811

 
$
101

 
0.24

 
$
133,006

 
$
97

 
.29

Interest-rate spread