STT State Street Corporation

We have reaffirmed our Neutral recommendation on KeyCorp (KEY) after reviewing its second quarter 2011 earnings results and enhanced focus on improving market share and branch network.

KeyCorp’s second quarter earnings were well ahead of the Zacks Consensus Estimate primarily on the back of lower non-interest expense, reduced credit costs and improved provision. However, lower net interest income and non-interest income were the headwinds.

Over the last two years, KeyCorp has opened 98 new branches and renovated approximately 145 branches, expanding its 14-state branch network to 1,048 branches. Hence, the company has been continuously gaining market share as well as improving its branch network and deposit density.

Additionally, as part of its long-term plan to modernize and strengthen its presence in selected markets, KeyCorp will open nearly 19 new branches in the remainder of 2011.

KeyCorp has grown its franchise through acquisitions. The company had acquired Tuition Management Systems in 2007 and U.S.B. Holding Company in 2008, which led to considerable improvement in the company’s position in terms of deposits and number of branches. Management remains open to M&A even at present, provided its long-term objectives are fulfilled.

Another positive catalyst for KeyCorp is its improving asset quality. Though the asset quality metrics remained weak in 2009, a significant improvement was witnessed during 2010 and in the first six months of 2011. Furthermore, management anticipates constant improvement in net charge-offs and nonperforming loans, given the ongoing economic recovery.

However, continued pressure on net interest margin remains a cause of concern for KeyCorp. The margin pressure is expected to remain in the near term due to the soft new loan, low interest rate environment and the company’s asset sensitive position.

Furthermore, owing to the implementation of various new regulations, including the Durbin Amendment, KeyCorp’s annual debit interchange revenue would be lowered by $50–$60 million, beginning the fourth quarter of 2011. All these will likely lead to added pressure on the top-line.

Also, though KeyCorp has a strong capital and liquidity position, it will be required to satisfy Basel III capital requirements. This, in turn, might lead to additional liquidity management initiatives including addition of more liquid assets, issuing term debt and modifying product pricing for loans, commitments and deposits. All these initiatives will likely add to the expenses.

While KeyCorp currently retains a Zacks #3 Rank (short-term Hold rating), one of its close competitors, State Street Corp. (STT), retains a Zacks #4 Rank (short-term Sell rating).

 
KEYCORP NEW (KEY): Free Stock Analysis Report
 
STATE ST CORP (STT): Free Stock Analysis Report
 
Zacks Investment Research