Reality hit after a few minutes into State Street Corp.'s initially upbeat earnings conference call: The financial services giant had a $3.2-billion skeleton hidden in its closet.
Winning over investor confidence these days doesn't come by burying news. Amid today's punishing financial crisis and economic downturn, shareholders want and deserve to know straight up about anything that could potentially hurt business or profits.
State Street sent out a news release topping 3,000 words — the length of a magazine article — at around 7 a.m last Tuesday morning. The release hyped its better-than-expected 45 percent gain in first-quarter earnings per share and its record revenues.
"I am extremely pleased with this record revenue performance, particularly in today's challenging environment," CEO Ronald Logue said in a statement. "The momentum we have achieved over the past 12 months continues, despite the negative equity markets."
There were the obligatory statements about "important factors" that could affect future results. But mostly, the Boston company, which provides investment services and management to the likes of mutual and pension funds, seemed to give investors a lot of reasons to cheer.
In the first minutes of trading that morning, the stock rose from its Monday close of $76.86 a share to $77, then $78 and topped $79. Had it stuck there, State Street would have turned in a decent 2 percent price gain for the day.
Then investors began to chew on the vague "challenges" that Logue talked about five minutes into his prepared comments during the company's call with analysts — more than two hours after the initial earnings news release.
Minutes later, chief financial officer Ed Resch told of how the company's $73.3-billion investment portfolio lost $3.2-billion in value during the quarter, from $1.1-billion at the end of last year. The value of the portfolio, of which 40 percent is in mortgage-backed securities including some that are subprime, had been hurt by illiquidity in the marketplace.
The bank has yet to recognize those losses, which is why they didn't show up in their trumped-up earnings release. It won't have to, either, unless the change in market value isn't temporary. But if those declining values stick, it could haunt State Street down the road, forcing it to realize those losses in coming quarters.
The unfolding tale put investors on edge, knocking the stock down nearly 10 percent on Tuesday to $69.23 and the selling trickled over into Wednesday. Wall Street analysts noted that there was more risk to the company's capital given the potential losses.
There's a lesson in this: Nobody in today's markets responds well to surprises.