Morgan Stanley’s Porat Says Bank ROE Drop Is Part Secular

Morgan Stanley Chief Financial Officer Ruth Porat said the drop in the financial industry’s return on equity is part cyclical and part secular as banks will be forced to hold more equity capital.

While firms will increase earnings as the global economy rebounds, they will post lower returns on equity than before the crisis, Porat, 54, said today at the Bloomberg Markets 50 Summit in New York. Lower ROEs will be offset by the benefits of a safer financial system, she said.

Morgan Stanley posted a 4 percent return on equity for 2011 and 1 percent in the first six months of this year, below the firm’s cost of capital, which Fiona Swaffield, a Royal Bank of Canada analyst, estimated last year at 11.5 percent. Porat said the bank has a sense of “urgency” in improving returns, which she said can surpass its cost of capital.

“If our returns in the 80’s and 90’s were 20s-plus, and we now have higher capital and it’s a safer structure, there is room for lower returns that are still attractive and meaningfully ahead of your cost of capital,” Porat said. “Returns have come down, but they need to be in excess of the cost of capital, or investors won’t stay invested.”

In addition to benefiting from an improving economy, banks will also be able to boost earnings by reducing costs and capitalizing as competitors exit certain businesses, Porat said. European lenders have been pulling back from some regions as they shore up capital and liquidity, she said.

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