Morgan Stanley (NYSE:MS) Q3 2023 Earnings Call Transcript

Morgan Stanley (NYSE:MS) Q3 2023 Earnings Call Transcript October 18, 2023

Morgan Stanley beats earnings expectations. Reported EPS is $1.38, expectations were $1.27.

Operator: Good morning. Welcome to Morgan Stanley’s Third Quarter 2023 Earnings Call. On behalf of Morgan Stanley, I will begin the call with the following information and disclaimers. This call is being recorded. During today’s presentation, we will refer to our earnings release and financial supplement, copies of which are available at morganstanley.com. Today’s presentation may include forward-looking statements that are subject to risks and uncertainties that may cause actual results to differ materially. Morgan Stanley does not undertake to update the forward-looking statements in this discussion. Please refer to our notices regarding forward-looking statements and non-GAAP measures that appear in the earnings release. This presentation may not be duplicated or reproduced without our consent. I will now turn the call over to Chairman and Chief Executive Officer, James Gorman.

James Gorman: Thank you. Good morning, everyone. Thanks all for joining us. As anticipated, the market environment in aggregate remained mixed continuing a pattern we’ve seen over the past several quarters. Notwithstanding, the net result for Morgan Stanley was regenerated $13 billion, a little over $13 billion in revenues, $2.3 billion in net income, and ROTCE of 13.5%. The concerns around a tight employment market, high commodity prices, inflationary pressures that may impact Fed policy provide additional challenges later in the quarter. But we are seeing increasing evidence of M&A and underwriting calendars that are building and while we expect momentum to continue this year, given the fourth quarter has some seasonal considerations, we expect most of the activity to materialize in 2024.

Meanwhile, it’s our job to control what we can control. Firstly, we successfully completed the E-Trade integration this quarter. That was a massive undertaking, and the expenses relating to that have been bleeding through the P&L for a couple of years, it involved us migrating 14 million accounts onto our platform and honestly it went incredibly well, really a seamless performance by the team. This conversion allows us to further execute on our strategy, building our revenue synergies across channels, and attracting clients to our best-in-class advice offering. Secondly, on the capital front, we bought back 1.5 billion in stock. We averaged a nearly 4% dividend yield over the quarter, and at the same time, delivered a CET1 ratio of 15.5%, which is 260 basis points over our most recent regulatory requirement.

We clearly have a significant capital buffer. Also, you saw the full details of the initial Basel III endgame proposal. As you all know, this is a proposal, not the final regulation. And I’m going to repeat that, it’s a proposal. There is an enormous amount of energy being spent, conversations being had across industry groups and agency board members and I’ve been deeply involved myself along with Sharon Yeshaya and we’ve been told many times that the Federal Reserve strongly welcomes comments on this proposal. Given this, I anticipate that the agencies will be open to considering thoughtful changes before it’s adopted as a final rule. But let me be crystal clear, because of the buffers we have built, even if this proposal were implemented today as written, we have adequate capital to meet the ultimate requirement.

Needless to say there are many years between now and then. In the quarter, wealth management generated net new assets of $36 billion, that’s obviously below recent quarters. It’s consistent with what I’ve been saying for a long time. These numbers will bounce around and in any quarterly period, they’re always idiosyncratic things. This year we’ve had two quarters where we had some surprise on the upside and in aggregate for the year, we’re totally net new assets of $235 billion year-to-date. Our annualized growth rate is at the high end of the 5% to 7% range that we’ve been looking at. And it’s consistent, in fact, it’s spot on with our three-year target of a trillion dollars for net new money. Overall, this firm is in excellent shape, notwithstanding the geopolitical and market turmoil that we find ourselves in.

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Q&A Session

My hope and expectation is to hand over Morgan Stanley with as clean as slate as possible and deal with a few of our outstanding issues in the next couple of months. I’m very excited about the future of this firm, its leadership, its strategy, and its culture. And I’ll now turn it over to Sharon, who can discuss the quarter in greater detail. And then together, as always, we’ll take your questions. Thank you.

Sharon Yeshaya: Thank you, and good morning. The firm produced revenues of $13.3 billion in the third quarter. Our EPS was $1.38 and our ROTCE was 13.5%. Results in the third quarter were solid against a mixed market backdrop. The firm’s year-to-date efficiency ratio was 75%. Together, severance and DCP impacted the year-to-date efficiency ratio by nearly 150 basis points. As we invest for growth, our integration efforts have remained a priority. Integration-related expenses were $68 million in the third quarter, and we anticipate a similar amount in the fourth quarter as previously communicated. Now to the businesses. Institutional securities revenues were $5.7 billion, declining 3% versus the prior year. Equity and fixed income results were in line with long-term historical averages.

Investment banking revenues remained depressed on lower volume. However, leading indicators across advisory and underwriting progress positively, evidenced by a notable increase of Morgan Stanley’s announced volumes in the third quarter on a year-over-year basis. Investment banking revenues decreased to $938 million. The change to the previous year was driven by lower results in advisory and debt underwriting. Advisory revenues of $449 million reflected a decline in completed transactions, due to lower announced volumes in prior periods. Despite the weaker quarterly results, we continue to see broad sector diversification of our completed deals and the backlog reflects a similar pattern. Equity underwriting revenues were $237 million. Overall activity remained muted relative to historical averages.

While increased confidence supported early September issuances, a hawkish tone from the Federal Reserve, and resulting moves in interest rates serve as a reminder that this market remains window-driven. Fixed income underwriting revenues were $252 million down versus the prior year, primarily reflecting lower non-investment grade events. We are encouraged by the growing client dialogue and bake-off activity across sectors and geographies. The pickup in our announced M&A volumes in the third quarter speak to the trends we’ve observed at the end of the last quarter. But the landscape continues to evolve. As we look ahead, corporate confidence will largely be determined by the overall health of the consumer and the stability of input costs. While risks remain, including geopolitical threats, the underlying trends suggest activity is building and there is a desire among clients to pursue their long-term strategic objectives.

Equity revenues were $2.5 billion. The business performed in line with historical averages with relative strength in Europe and Asia. Prime brokerage revenues were solid. Client balances were modestly higher, compared to last year. The results reflect narrower spreads and the geographic mix of those balances. Cash revenues declined versus the prior year on lower overall global volumes. Derivative results increased year-over-year, reflecting higher client activity with particular strength in Europe. Fixed income revenues were $1.9 billion. Micro results increased versus the prior year, supported by strength in securitized products, both in agency and non-agency trading. Macro revenues decreased versus last year’s elevated results with lower revenues and rates in foreign exchange.

Results reflect lower client conviction, particularly around the future of central bank policy. Commodity revenues increase year-over-year on the back of a constructive trading environment, particularly for oil. Other revenues of $277 million improved versus last year, driven by lower mark-to-market losses on corporate loans, net of loan hedges, and higher net interest income and fees. Turning to ISG lending and provision. The allowance for credit losses in ISG loans and lending commitments increased slightly to $1.4 billion. In the quarter ISG provisions were $93 million. The increase was driven by a continued negative outlook for the commercial real estate sector. Net charge-offs were $39 million, primarily related to one commercial real estate loan in the office sector.

Turning to wealth management, revenues of $6.4 billion were strong, an increase from the prior year. The growth of asset management revenues more than offset the cyclical declines in net interest income, underscoring their durability. As designed, our asset led strategy provides steady fee-based flows that support asset management revenues. With this in mind, we remain focused on asset migration into our advisor led channel. This quarter, our long-term strategy took a critical step forward as we completed the last major milestone of our E-Trade integration, successfully converting nearly $900 billion of client AUM onto the Morgan Stanley platform. This will continue to enhance our ability to introduce clients and advisors and seamlessly transition them into advice-based relationships.

Moving on to the business metrics in the third quarter, pre-tax profit was $1.7 billion and the PBT margin was 26.7%. Integration expenses, as well as DCP negatively impacted the margin by approximately 150 basis points. Net new assets were $36 billion, bringing year-to-date NNA to $235 billion, which represents over 7% annualized growth of beginning period assets. Net new assets in the quarter were supported by new clients and positive net recruiting into the advisor led channel. The multi-year buildup of assets provide a foundational pipeline into our advisor led channel, evidence by fee-based flows of $22.5 billion in the third quarter alone. Asset management revenues of $3.6 billion increased 7% year-over-year. Higher average assets and the impact of cumulative positive fee-based flows over the past year drove the increase.

Transactional revenues excluding DCP were $820 million, up 7% year-over-year. Results reflect opportunistic deployment of new capital by retail clients into alternatives, particularly into private equity and private credit. Bank lending balances roughly flat versus the prior quarter. Growth in mortgages and tailored lending offset paydowns and securities-based lending. Total deposits of $340 billion remain stable, compared to the prior quarter. Still, the deposit mix has shifted as clients continue to allocate rate-sensitive cash to higher-yielding cash alternatives available on the platform, including our expanded savings offering. In addition, the quarter saw consistent positive monthly inflows into equity markets from sweep balances, ongoing evidence of the improvement of the retail client sentiment.

Net interest income was $2 billion. The sequential decline reflects a continued shift in the deposit mix. Looking towards the rest of this year, based on where we exited the quarter, we expect NII to trend lower. The magnitude will be a function of our deposit mix and the trajectory of rates. The wealth management business model is focused on steady asset aggregation, delivering strong solutions and advice to clients, while growing durable fees and expanding margin through the cycle. We are continuing to invest in our industry-leading position and the sustainability of our long-term growth. As the backdrop recovers, advisors remain well-positioned to capture greater asset opportunity supported by our multi-channel model that was built to attract new client relationships.

Turning to investment management, revenues of $1.3 billion increased 14%, compared to the prior year, supported by higher asset management revenues. Total AUM ended at $1.4 trillion. Long-term net outflows of approximately $7 billion were driven predominantly by headwinds to our [Technical Difficulty] active equity growth strategies, which continue to see redemption consistent with the industry. Including the segment’s outflows, year-to-date long-term flows across the franchise were slightly positive. Within alternatives and solutions, we continue to see demand for parametric customized portfolios across both equity and fixed income strategies, a partial offset to the headwinds of the quarter. Liquidity and overlay services had net flows of $5.7 billion, driven by demand for parametric institutional portfolio overlay solutions and our liquidity strategies.