Finance

Gillian Tan is a Bloomberg Gadfly columnist covering deals and private equity. She previously was a reporter for the Wall Street Journal. She is a qualified chartered accountant.

James Gorman 1: Lloyd Blankfein 0. At least, that's the tally so far this year following first-quarter earnings.

Morgan Stanley on Wednesday delivered robust first-quarter results that exceeded expectations and quelled any concerns that it may have encountered the kind of soft start to the year faced by its closest rival, Goldman Sachs Group Inc. In fact, the New York-based bank was able to grow its own bond-trading revenue and topple Goldman for the first time in nearly six years despite shrinking the number of fixed-income traders and salespeople on its team by 25 percent roughly 16 months ago. 

Leapfrog
Morgan Stanley's fixed-income trading unit posted higher revenue than its counterpart at Goldman Sachs for the first time in at least five years
Source: Bloomberg

Goldman's deputy chief financial officer Martin Chavez said on Tuesday that "no quarter defines the franchise." But even if the bank's struggles in fixed income, currencies and commodities don't persist, it should consider cutting some of its headcount here, as Morgan Stanley has done. That itself would give Goldman an edge. Already, the amount the bank spends on compensation as a portion of revenue, known as its compensation ratio, is 41 percent -- lower than Morgan Stanley's at almost 46 percent, but investors would welcome any improvement. (Admittedly, these figures are higher than the compensation ratios of so-called universal banks such as Wells Fargo & Co. and JPMorgan Chase & Co., in part because Goldman and Morgan Stanley are less reliant on businesses like consumer and community lending). 

But back to Morgan Stanley. It managed to reach a milestone this quarter: On an annualized basis, its return on equity breached 10 percent for the first time since March 2015, putting it on track to meet its goal of between 9 and 11 percent for the closely-watched profitability metric.

One Down, Three to Go
Morgan Stanley is on track to achieve at least one of its 2017 goals: return on equity of 9% to 11%
Source: Bloomberg
*Annualized

If the well-capitalized lender is given the green light from bank regulators to again lift its dividend and bolster share buyback plans, reaching that target looks all but certain, which is good news for shareholders. 

Big Buffer
Morgan Stanley's capital position comfortably exceeds the Bloomberg Intelligence estimated target of 10.5 percent*
Source: Bloomberg
*This includes a management buffer

On the subject of regulators, Morgan Stanley's Chairman and CEO James Gorman took time on a call with analysts to suggest at least one potential regulatory change. (Perhaps he felt left out by excluding such thoughts from his annual letter to shareholders, which was succinct compared to the lengthy missive from JPMorgan's Jamie Dimon.) 

While both men agree that stress tests should be simplified, Gorman offered up this suggestion to the Federal Reserve: the complex and burdensome review -- which determines whether firms can withstand losses and still pay dividends, repurchase shares or make acquisitions -- should be moved to a two-year cycle from its current annual schedule.

That's a nice idea in theory (and would eliminate the need to pull together more than 25,000 pages so frequently) but a lot can happen in that time frame, so I doubt regulators would be up for it. Plus, it would potentially extend the periods during which the bank could seek approval to increase their shareholder payouts, removing at least one method of improving profitability. So, if anything, Dimon's suggestion to integrate the annual checkup into a bank's regular exams makes more sense, as regulators could immediately approve or halt payouts in good times or during a crisis. 

Most to Gain?
According to Wall Street analysts, Morgan Stanley offers the most upside of the largest U.S. banks over the next year at roughly 13 percent*
Source: Bloomberg
*Next up is Goldman at roughly 12.4 percent

Regardless, Morgan Stanley investors can cheer: Of the biggest six U.S. banks, it's the only stock to have rallied after delivering its earnings and is now basically flat so far in 2017. With additional volatility likely to be created by European elections and ongoing uncertainty around U.S. policy-making, bond-trading businesses on Wall Street should continue to prosper. All eyes will now be on the June quarter, to see whether Morgan Stanley will best its rival once again -- and if it's time for Goldman to make some changes. 

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Gillian Tan in New York at gtan129@bloomberg.net

To contact the editor responsible for this story:
Beth Williams at bewilliams@bloomberg.net