Morgan Stanley Should Cut Fixed-Income Unit by 50%, ISI Says
Morgan Stanley (MS) should cut its fixed- income trading business in half and use the freed-up capital to buy back a quarter of its shares, said Ed Najarian, an analyst at International Strategy & Investment Group Inc.
The firm should cut its so-called risk-weighted assets by $150 billion under Basel III rules, about twice the reduction it currently plans, Najarian estimated yesterday in a research note. The larger reduction and buybacks could double Morgan Stanley’s stock price to about $27, he wrote.
The bank will continue shrinking its fixed-income trading unit, cutting risk-weighted assets 30 percent from the third quarter of 2011 through the end of 2014, Chief Executive Officer James Gorman said last month. Najarian joined CLSA Ltd.’s Michael Mayo in saying that reduction isn’t enough.
“With Morgan Stanley stock languishing at about 50 percent of tangible book value, and down more than 50 percent over the past three years, we think management needs to potentially embark upon a more aggressive strategic plan in an effort to create value for shareholders,” Najarian wrote.
Morgan Stanley fell 3.6 percent yesterday to $13.03 and has declined 14 percent this year. The stock has dropped 56 percent since Gorman took over at the beginning of 2010. Najarian, who has a hold rating on the shares, said the current price “could prove an attractive entry point for speculative investors.”
Najarian estimated that Morgan Stanley had about $500 billion of risk-weighted assets at the end of the second quarter, with the fixed-income trading business accounting for $305 billion. Morgan Stanley hasn’t provided its risk-weighted assets under Basel III rules, saying only that its Tier 1 common ratio was just below 8.5 percent.
The firm probably would incur about $3 billion of pretax losses from reducing assets at a quicker pace, as it would be forced to sell some positions at below-market prices, Najarian said. The cuts would allow the bank to repurchase $12 billion in stock from 2013 through 2015, enough to reduce outstanding shares by at least 25 percent, he wrote.
Morgan Stanley could buy back about 13 percent of the shares by the end of 2015 under its current plan, Najarian estimated.
He didn’t specify in the research note which fixed-income businesses would incur the additional cuts. Chief Financial Officer Ruth Porat said last month that Morgan Stanley would target structured credit and sub-investment-grade securitization products in its reductions.
Morgan Stanley management must decide to further shrink the fixed-income business, as it would be hard for an activist investor to force the company to do so, Najarian said. About half of the firm’s shares are held by employees, index funds, Mitsubishi UFJ Financial Group Inc. and China Investment Corp., he wrote.
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