DBRS Confirms The Bank of New York Mellon Corp.; Senior Debt at AA (low), Trend Stable

DBRS, Inc. (DBRS) has today confirmed the ratings of the Bank of New York Mellon Corporation (BNY Mellon or the Company) and its banking subsidiaries, including BNY Mellon’s Issuer & Senior Debt rating of AA (low). The trend for all ratings remains Stable. The rating confirmation follows a detailed review of the Company’s operating results, financial fundamentals, and future prospects.

The rating confirmation and Stable trend reflect BNY Mellon’s leading asset servicing and investment management franchise that is able to generate consistent and diversified earnings through a primarily fee-based business model. The Company’s strong, lower risk balance sheet supports the rating featuring robust liquidity, sound asset quality, and strong risk-based capital. Performance metrics had previously lagged peers, but BNY Mellon has reported the most significant positive operating leverage on an adjusted core basis for 1H14, as expense savings become more evident. Like all trust banks, the ratings also consider the operational and reputational risks associated with the important role BNY Mellon plays in the global financial markets that are growing increasingly complex.

Given its high rating level, DBRS does not foresee an upgrade in its current rating outlook for the Company. Negative rating implications could arise, however, from diminished new business wins, sustained negative operating leverage, or an unexpected material loss that would invade capital.

The Company has made better progress controlling expenses contributing to improved results despite the low interest rate environment, increased regulatory demands, and weak global economic growth, which remain headwinds. Adjusting for one-time items, BNY Mellon reported 1H14 net income applicable to common shareholders of $1.4 billion compared to $1.3 billion in 1H13 primarily driven by lower core expenses, which remains a focus. In 2Q14, BNY Mellon announced new steps to realize additional cost savings going forward to better align expenses with the difficult operating environment and improve returns requiring a $120 million pre-tax restructuring charge. DBRS notes that the most recent expense initiatives should contribute to BNY Mellon achieving its 10% return on equity target, even without higher interest rates.

DBRS believes that higher interest rates would bolster net interest revenue, reduce money market fee waivers, and increase securities lending spreads. BNY Mellon noted that a 50 basis point increase in the effective fed funds rate would allow the Company to recoup approximately 70% of its money market fee waivers, which totaled $429 million (pre-tax) in FY13 and are currently on pace to exceed that amount in in FY14.

New business wins have been relatively consistent in both Investment Management and Investment Services. The loss of a few major custody clients over the past year has slowed servicing fee growth relative to the other trust banks, but BNY Mellon remains the largest custody bank as measured by assets under custody and/or administration (AUC/A) at $28.5 trillion. Meanwhile, Investment Management has benefited from net long-term inflows and higher market valuations resulting in record assets under management (AUM) of $1.64 trillion. The Company’s liability-driven investments product has been particularly strong, accounting for the vast majority of long-term inflows. Just recently, the Company announced an agreement to acquire Cutwater Asset Management (Cutwater), which would add approximately $23 billion of fixed income AUM and further expanding client offerings.

Credit risk remains minimal, as the Company primarily targets investment grade companies or high net worth individuals. Moreover, the loan portfolio accounts for only around 15% of total assets with almost 1/3 of the loan portfolio comprised of fully collateralized margin loans. Meanwhile, BNY Mellon’s investment securities portfolio, which comprised approximately 26% of total assets, is an unrealized gain position and 89% of the portfolio is rated at least AA (low).

Liquidity remains robust supported by a very low cost deposit base and unencumbered balance sheet. Moreover, cash and liquid assets (excluding the investment securities portfolio) comprised a high 42% of total assets.

On a risk-adjusted basis, BNY Mellon’s capital position is strong, but the Company’s tangible common equity ratio trails those of the other trust banks. DBRS notes that under this year’s Comprehensive Capital Analysis and Review (CCAR), BNY Mellon was able to maintain the highest Tier 1 Common Ratio under the severely adverse scenario of all banks subject to the stress test. Most recently in 2Q14, the Company reported a fully phased in Basel III Tier 1 Common Equity Ratio under the advanced approach of 10.0%, which was down sequentially. Specifically, the decline was entirely attributable to an increase in risk-weighted assets from certain consolidated investment funds and the harsher treatment could be temporary in nature. Management also noted that the supplementary leverage ratio (SLR) was stable at approximately 4.7% even with a larger balance sheet. DBRS continues to believe that BNY Mellon can comply with the SLR and other regulatory requirements without materially impairing its performance.

The Bank of New York Mellon Corporation, a financial holding company headquartered in New York City, reported $400.7 billion in assets at June 30, 2014.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The principal applicable methodology is the Global Methodology for Rating Banks and Banking Organisations (June 2014). Other applicable methodologies include the DBRS Criteria – Support Assessments for Banks and Banking Organisations (January 2014) and DBRS Criteria: Rating Bank Capital Securities – Subordinated, Hybrid, Preferred & Contingent Capital Securities (December 2013). These can be found at: http://www.dbrs.com/about/methodologies.

The primary sources of information used for this rating include company documents and SNL Financial. DBRS considers the information available to it for the purposes of providing this rating was of satisfactory quality.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.

Lead Analyst: Michael Driscoll
Rating Committee Chair: Roger Lister
Initial Rating Date: 2 July 2007
Most Recent Rating Update: 28 August 2013

For additional information on this rating, please refer to the linking document under Related Research.