Morgan Stanley Faces More Short Term Pain, Analyst Says

The theory that the survivors on Wall Street should now have an easy time of it because their competitors have been squashed and they are repositioning for new market conditions may be a bit overblown. As an analyst from FBR argues today, the play of ramping up the brokerage business faces a lot of challenges from continued market volatility and aggressive recruitment/retention payments making it a much more expensive business to be in.

They urge caution on Morgan Stanley. Although Morgan Stanley seems to have won out in its joint venture with Citigroup’s Smith Barney, the brokerage business is far from easy street thiese days. “We entered 2009 with a negative view on the profitability of retail investor channels, given the significant declines in equity markets, and we have become more cautious due to the continued market volatility and the  aggressive retention/recruitment packages currently being offered to  brokers in the retail channel,” FBR explains.

Here’s the two important points from the report:

    * Takeaways. Until capital markets activity stabilizes, competitive
      pressures for retail brokers subside, and/or valuations become
      more attractive, we will maintain a cautious stance on MS shares.
      Although we expect Morgan Stanley to benefit from improved market
      share due to the significant disruptions at competitors over the
      past year, given the current market conditions, we see little
      potential for return on equity (ROE) expansion much beyond 10%.

    * Value add. Morgan Stanley’s recently announced joint venture with
      Citigroup’s Smith Barney unit fulfils one of the company’s
      strategic initiatives implemented in response to the changing
      market environment. Morgan Stanley’s majority interest in the
      joint venture expands the business with stable, less
      capital-intensive revenue streams. Morgan Stanley appears to have
      benefited most from the transaction; however, the up-front
      payments required to retain talent in an environment of declining
      revenues and aggressive recruiting from competitors reduce the
      incremental benefit from the deal.

The bottom line is that FBR thinks there is a 10 per cent possible upside in Morgan Stanley, but risks involved still make them cautious on the stock.


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