SS's VIE exposure

--The 2007 annual report of the State Street Corporation, a Boston bank, is a model of what disclosures should be, in laying out the risks of some special purpose entities it set up to hold assets. Those entities, known as conduits, borrowed money to pay for the assets, with State Street promising to come up with the cash if the conduits could not find other lenders. In the report, State Street explains why it has not taken any write-off on those conduits, which contain $28.8 billion in what the bank believes to be high-quality assets. --It can avoid consolidation because other investors would suffer the first $32 million of losses — about one-tenth of 1 percent of the assets. After that, State Street would be on the hook. But State Street says its model indicates defaults on the underlying assets will not cost that much. --So long as the conduits stay off its balance sheet, State Street does not have to adjust them to reflect the market value of the assets in the conduits. But if State Street ever concludes that defaults are likely to be a little higher — say $100 million, only three-tenths of a percent of assets — it will have to put the assets on its balance sheet. And if it does that, it will have to write them down to market value. --At the end of last year, State Street estimates that market value was about $850 million below face value. Had it been forced to consolidate the conduits, that loss would have been posted, leaving a write-down of about $530 million after taxes. About 40 percent of the bank’s 2007 profits would have vanished.