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October 06, 2008 01:00 AM

Even stalwart Northern Trust buffeted by financial gales

Steve Daniels
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    In the first half of the year, Northern Trust Corp., Chicago, managed to sidestep the financial crisis engulfing most of the rest of the banking industry.

    No longer.

    In addition to the $525 million pretax charge the bank will take against third-quarter earnings — a move to protect its clients against losses in some money-market funds — larger market forces are pinching two key revenue sources that have buttressed Northern to date: securities lending and foreign exchange trading.

    As of late morning Oct. 3, Northern’s stock was down about 13% year-to-date, but it’s held up better than most of its competitors. The Standard & Poor’s Financial Index has fallen 30% in the same period.

    “They’re getting caught in some of the same traps that their brethren are getting caught in,” said Nancy Bush, a bank analyst with her own firm, NAB Research LLC, Aiken, S.C.

    Investors worry about the potential for more big earnings charges. Indeed, Northern executives say they can’t promise they won’t have to intercede again to forestall client losses in money-market funds that are supposed to be safe, low-yield investments but instead have, at times, verged on losses because of the turmoil in the credit markets.

    “We felt it was a good and right thing to do” to stand behind clients, Northern Chief Financial Officer Steven Fradkin said in an interview Thursday. Asked whether it might become necessary again, he said, “The answer is, we don’t know.”

    If so, Northern’s balance sheet easily could absorb another hit like the one it just decided to take. The bank could handle at least $1.5 billion in such charges, said Jason Tyler, portfolio manager at Ariel Investments LLC, Chicago, which held 1.6 million shares, or 0.7%, of Northern stock as of June 30.

    But the market conditions that supported Northern earlier in the year are now turning against it.

    Securities lending revenue was up 114% in the first six months of the year compared with the same period last year, to $255 million, not counting extraordinary items. But it is expected to fall now that fewer clients are lending shares to short-sellers.

    Foreign-exchange trading, also up this year as market volatility has prompted more client activity, is expected to fall off, too, analysts say. And without that support, Northern’s traditional exposure to the rise and fall of the stock market — its fees generally are tied directly to the assets it manages or holds for clients — will come more to the fore.

    Analysts are lowering their earnings estimates modestly for the rest of this year and next year as a result.

    However, Northern is benefiting from the tough times in one respect: It’s seeing an inflow of customer deposits based on the 119-year-old institution’s reputation as a conservatively run institution. Mr. Fradkin wouldn’t provide numbers ahead of Northern’s third-quarter earnings release later this month but said, “We’ve been inundated with calls from prospective clients who are scared.”

    While it’s pursuing organic growth, Northern isn’t likely to follow the course of other strong banks like JPMorgan Chase & Co., New York, that have gobbled up teetering institutions such as Seattle-based Washington Mutual Inc.

    “We’re not out there on the prowl, trying to buy these damaged franchises, thinking we can run them better than anyone else,” Mr. Fradkin said.

    Steve Daniels is a reporter with Crain's Chicago Business, a sister publication of Pensions & Investments

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