Fitch: Morgan Stanley 1Q'14 Results Benefited from Improved Fixed Income and Commodities Revenues

Morgan Stanley reported strong first-quarter 2014 (1Q'14) operating results which benefited from improved fixed income and commodities net revenues combined with lower non-compensation expenses. Morgan Stanley continues to conservatively manage liquidity and funding and reported a comparatively strong Basel III capital ratio.

Morgan Stanley's core profitability improved significantly from the prior quarter. Fitch calculated that pre-tax operating profits (excluding debt-valuation adjustment [DVA] impact and other one-time charges) improved to $2.2 billion at 1Q'14 from $1.4 billion at 4Q'13. As a result, the pre-tax operating return on assets (excluding DVA impact and other charges) improved to 1.1% from 0.7%. Non-compensation expenses decreased 43% to $2.3 billion as 4Q'13 results included $1.2 billion in one-time legal expenses.

Wealth management's pre-tax operating margin was 19% at 1Q'14 as compared with 20% (excluding a one-time impairment charge) at 4Q'13. The lower margin was driven by a $132 million decrease in net revenues. Fitch continues to believe that Morgan Stanley's targeted pre-tax operating margin of 22%-25% in 4Q'15 is achievable if the company successfully executes on its strategy to deploy these deposits into securities and loans with higher returns.

Institutional securities net revenues (excluding DVA impact) increased significantly sequentially. Fixed income and commodities net revenues (excluding DVA impact) increased to $1.7 billion at 1Q'14 from $694 million at 4Q'14 due to strong performance in commodities, credit, and mortgage products. Equity sales and trading net revenues of $1.7 billion (excluding DVA impact) were up 13% quarter over quarter due to strong client activity across all regions.

Investment banking experienced overall lower volumes resulting in net revenues decreasing 17% to $1.1 billion at 1Q'14 from $1.4 billion at 4Q'13. However, on a year-over-year basis, investment banking benefitted from higher M&A activity, and higher equity and debt underwritings. The investment banking backlog continues to be strong, and Morgan Stanley should continue to benefit from a higher level of activity.

Liquidity continues to be managed conservatively. Morgan Stanley's global liquidity reserve, which comprised unencumbered liquid securities and cash, was a solid $203 billion, or 24% of total assets at 1Q'14. Value at risk (VaR) was virtually unchanged from 4Q'13 at $50 million.

Morgan Stanley estimated that it's Tier I common ratio under the Basel III advanced approach was approximately 11.6% at 1Q'14, comfortably above the 8.5% minimum and 110bps higher than at 4Q'13. The company estimated that its supplementary leverage ratio under the recent U.S. regulatory proposal for the bank exceeded 6%. The holding company supplementary leverage ratio under the new proposal was 4.2%, compared with 4.5% under the prior methodology. Although below the 5% threshold, Fitch continues to believe that Morgan Stanley will be able to meet the supplementary leverage minimums ahead of the required timeframe.

During 1Q'14, Morgan Stanley repurchased approximately $150 million shares following its announcement in 2Q'13 of a $500 million share buyback. As recently disclosed, the Federal Reserve did not object to Morgan Stanley's capital plan as part of the annual CCAR process. As a result, Morgan Stanley announced an authorization to repurchase $1 billion of common equity through 1Q'15 and a $0.05 per share increase in quarterly dividend to $0.10 per share.

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