Morgan Stanley perplexes Wall Street as bank loses $20bn

Morgan Stanley perplexes Wall Street as bank loses $20bn
Other institutions were known to be at risk, but the builder of America's railroads was thought to be safe
John Mack, the chief executive of Morgan Stanley, claims that fear, rumours and short-sellers are controlling the market and driving down the share price of the 73-year-old bank

Suzy Jagger in New York
The 57 per cent share price plunge of Morgan Stanley stock over the past four days represents a tipping point in the American banking crisis.

Until lunchtime on Wednesday, there had been no genuine surprises on Wall Street. The predicament of Lehman Brothers had been no secret, having been swamped by $85 billion (£47 billion) of toxic debt, and investors were losing confidence in the bank on a daily basis.

AIG, the newly nationalised insurer, had lost as much money in the first half of this year as it had made in the whole of 2006. Fannie Mae and Freddie Mac, the mortgage giants, had long signalled the stress on their loan books amid the US housing slump.

However, the sharp declines that have hit Morgan Stanley stock this week have genuinely perplexed the stock market. There is no reason for traders to believe that, fundamentally, the bank is less robust than it was last Friday, but it is valued at $20 billion less.

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In a memo to staff on Wednesday, John Mack, the chief executive of Morgan Stanley, said: “What's happening out there? It's very clear to me - we're in the midst of a market controlled by fear and rumours and short-sellers are driving our stock down.”

In this market driven by panic, Morgan Stanley sought yesterday to sell a stake to the Chinese. According to analysts, it is money the bank does not need. According to Colm Kelleher, the bank's finance director, Morgan Stanley needs no new capital until well into next year.

One analyst, who declined to be named, said: “The business is sound. We are perplexed about the stock price fall. There are always liquidity risks in this type of market, but Morgan Stanley has access to the Fed, and they are fundamentally very well capitalised - better than Goldman, actually.

They didn't need this money, but I guess it's made people feel more comfortable, like they have another lever to pull.”

Amid the rising anxiety on Wall Street, few took heart from Morgan Stanley's impressive third-quarter results, which were published on Tuesday evening.

Although profits overall fell by 3 per cent compared with the same quarter the year before, its performance beat all Wall Street expectations. It also compares with the 70 per cent slide in corresponding quarterly profits by Goldman Sachs.

Wall Street analysts praised the robustness of Morgan Stanley's impressive sales and trading businesses. In the bank's institutional securities business, net revenues for the period jumped by 19 per cent, compared with the same quarter in 2007, boosted by its equities and fixed-income divisions.

In its investment banking division, revenues jumped by 18 per cent, compared with the second quarter of 2008.

Although the bank's global wealth management arm suffered an 8per cent slide in net revenues for the period of $1.62 billion, and took a $277million hit to settle its auction-rate securities obligations, the bank attracted new clients, marking the second-highest quarter in its history. Its property and private equity investments were poor, with net revenues down by 53 per cent.

Overall, however, the results were respectable, prompting analysts for Sanford Bernstein, the Wall Street broker, to tell their clients: “Investors should note that Morgan Stanley has an investment banking franchise that is arguably second only to Goldman Sachs, with powerful positions in the highest-margin banking businesses, mergers and acquisition advisory, equity underwriting and high-yield underwriting.”

Sanford Bernstein reckons the stock is worth $60 a share and advised its clients to buy. Yesterday the shares closed at $22.55 each. Traders have long feared that the rot on Wall Street would creep up the tree. With Bear Stearns and Lehman Brothers out of the picture, and Merrill Lynch newly housed by its merger with Bank of America, next on the short-sellers' hitlist were Goldman Sachs and Morgan Stanley, the blue chips of Wall Street.

While America struggled to pull itself out of the Great Depression, forging rail networks, building roads and developing the world's foremost industrial base, it was Morgan Stanley - founded in 1935 - that helped with capital raising for the steel industry and the railroads. Henry Morgan - the son of J.P. Morgan - and Harold Stanley quit the established bank to form their own at No2, Wall Street. Within a year, Morgan and Stanley controlled a quarter of the market for new floats and fundraising.

Morgan Stanley became a king of investment banking. In the 1940s, it launched the biggest bond issue in history. In the 1980s it floated Apple, the computer giant, and spun out Conoco, the oil giant, from DuPont, in a deal that was the biggest initial public offering in Wall Street history.

Over the past ten years, as potential investors eyed prospectuses for the most exciting flotations across the globe, they would usually find the name Morgan Stanley at the bottom as chief adviser. The bank took Google to the stock market in 2004, floated the China Construction Bank for $9.2 billion, and Rosneft, the Russian energy giant, in 2006.

Although the crash of 1929 predated Morgan Stanley, the bank finds itself in the eye of a similar banking catastrophe. Alongside the share price fall this week, there are early signs that some hedge fund clients may move their business. Rival banks and brokers were working overtime on Wednesday to poach Morgan Stanley clients that had become nervous about the group's share price fall. It is thought that Deutsche Bank, UBS and Credit Suisse were all trying to persuade some of Morgan Stanley's clients to switch.

The possible erosion of Mr Mack's client list may be the least of the chief executive's worries. He is believed to have discussed at the weekend the feasibility of a merger with Merrill Lynch to safeguard its future. However, the talks collapsed after it emerged that John Thain, the chief executive of Merrill, wanted to move fast on a possible deal - too fast, it would seen, for Mr Mack. This week Mr Mack is trying to secure a deal with China Investment Corporation and Wachovia. He has also explored the feasibility of tie-ups with HSBC, Banco Santander and Nomura.

Bank balance

$28.03bn Morgan Stanley's net revenues for 2007

$30.35bn its estimated net revenues for 2008

$2.56bn the bank's net income for 2007

$5.4bn its estimated net income for 2008

Source: Sanford Bernstein