摩根士丹利 (MS) 2009 Q2 法說會逐字稿

Welcome to the Morgan Stanley conference call.

The following is a live broadcast by Morgan Stanley and is provided as a courtesy.

Please note that this call is being broadcast on the Internet through the Company's web site at www.MorganStanley.com.

A replay of the call and web will be available through the Company's web site and by phone through August 22, 2009.

This presentation may contain forward-looking statements.

You are cautioned not to place undue reliance on forward-looking statements, which speak only as of the date on which they are made, which reflect management's current estimates, projections, expectations or beliefs which are subject to risks and uncertainties that may cause actual results to differ materially.

For a discussion of additional risks and uncertainties that may affect the put chore results of the Company, please see the Company's annual report on Form 10-K for the year ended November 30, 2008, the Company's 2009 quarterly reports, and the Company's current reports on form 8-K.

The presentation may also include certain non-GAAP financial measures.

The reconciliation of such measures to the comparable GAAP figures are included in our annual report on Form 10-K, our quarterly report on Form 10-Q and our current reports on Form 8-K which are available on our web site, www.MorganStanley.com.

Any recording, rebroadcast or other use of this presentation in whole or in part is strictly prohibited without prior written consent of Morgan Stanley.

This presentation is copyrighted and proprietary to Morgan Stanley.

At this time, I would like to turn the program over to Mr.

Colm Kelleher.

Please go ahead.

Please go ahead.

Good morning, everyone.

Thank you for joining us.

Today we will review our quarterly results and provide an update of our strategic initiatives.

We remain firm in our view that 2009 is a year of transition and the second quarter reflects that ongoing process.

Our results show progress in this transition as we invest in talent, execute the joint venture with Smith Barney and continue with asset management.

A number of noteworthy items result in a loss of $1.37 per share from continuing operations, for the quarter ended June 30, including negative revenue of $2.3 billion from the narrowing of Morgan Stanley's debt related credit spreads impacting earnings per share by $1.32.

An $850 million accelerated amortization charges from the TARP related Series D preferred stock, impacting earnings per share by $0.74 and a $202 million charge related to the partial redemption of the Series C preferred stock issued to MUFG in exchange for its purchase of Morgan Stanley's common stock, impacting earnings per share by $0.17.

Other items incurred during the quarter were $734 million in firm-wide real estate losses, $245 million in integration-related costs associated with the Morgan Stanley-Smith Barney joint venture and a $33 million expense related to the FDIC special assessment.

Discontinued operations included the results of MSCI, including a $310 million after tax gain on its sale.

This quarter, we continue to focus on risk adjusted returns.

Whilst I will address our relative underperformance of fixed income later in the discussion, we continue to be well positioned for recovery in the global capital markets and are not limited by a large portfolio or direct consumer exposure.

On May 31, ahead of schedule, we closed the Morgan Stanley/Smith Barney joint venture, creating a new global leader in wealth management.

In June, we also announced further details of our global strategic alliance with MUFG.

We are collaborating in corporate and investment banking through a loan marketing joint venture in the US, and business referral arrangements in Europe and Asia and we created a referral agreement to provide Morgan Stanley's commodities products to MUFG's global customer base.

We believe these initiatives will offer us greater lending capacity and expand our institutional client base, especially in Asia.

We are currently in the process of turning around asset management.

We've examined scale, expense, structure and performance issues of each business and are now executing the optimization of these distinct businesses.

In November, we committed to $2 billion in firm-wide cost savings of 2009.

We have reduced compensation expenses by $1.2 billion from headcount reductions primarily taken in 2008, now with the joint venture closed with the opportunity in the marketplace, we're taking advantage of the market dislocation hiring strategically.

We've added talent with fixed income, derivatives, prime brokerage investment banking and asset management and continue to invest in our people.

With the inclusion of the joint venture with Smith Barney in our consolidated results, our recurring noncompensation expenses are going to be higher.

We have committed to reduction of $800 million in recurring noncomp expenses for 2009.

Through the first half of this year, we made significant progress towards this goal.

Excluding the present impairment, Smith Barney operating expenses and joint venture integration costs, we have reduced our recurring noncomp expenses by nearly $600 million year-to-date.

We remain focused in identifying reducing expenses.

Now, turning to our consolidated results, we continue to demonstrate leadership in our businesses, including investment banking, credit trading and global wealth management.

Turn to page two of our supplement, firm-wide revenues of $5.4 billion included the negative impact of $2.3 billion as stated earlier from the tightening of Morgan Stanley's credit spreads on certain long-term debt carried at fair value.

Revenues included Smith Barney's contribution to the joint venture for the month of June.

Results also include net loss of firm wide real estate expenses, aggregating $734 million.

Non-interest expenses were $6 billion, up over 50% for the first quarter, largely driven by compensation as we continue to invest in our people and talent as I discussed earlier.

Non-interest expense is also increased due to the inclusion of both compensation and noncompensation expenses from Smith Barney.

We continue to accrue compensation based on our estimate of full-year needs and competitive market pressures.

Noncompensation expenses were $2.2 billion, up 19% from last quarter, driven by, as I said, a number of discrete items including integration costs of the joint venture, charges related to occupancy and the FDIC special assessment.

If you turn to page three in the financial supplement.

After significantly reducing our balance sheet in 2008, total assets increased to $677 billion at June 30, of which $158 billion is our liquidity pool.

This is primarily driven by the increase in our client financing businesses, and the addition of assets from Smith Barney.

We continue to keep a significant portion of our balance sheet in cash and equivalents as we believe maintaining strong liquidity is prudent in the current environment.

Our capital ratios demonstrate the exceptional strength of our balance sheet.

While we are still finalizing our calculations, we believe our tier one ratio under Basel-1 will be 15.8%.

Risk weighted assets are expected to be approximately $277 billion at June 30, and we expect our tier one common ratio to be 8.3% and tangible common equity to risk weighted asset ratio to be 10.4%.

Level 3 assets were $61 billion at June 30, representing approximately 9% of total assets.

Now, we turn to the businesses starting with page five of the supplement and institutional securities.

Revenues of $3 billion include the $2.3 billion negative impact of credit spreads discussed earlier.

Principal investment revenues were negative $183 million.

Writedowns are $285 million in real estate, limited partnership interests were partially offset by gains in corporate private equity investments.

Non-interest expenses were $3.3 billion in the second quarter, up 58% from the first quarter, primarily on higher compensation.

The business reported after all this a pretax loss of $307 million.

A return to investment banking on page six.

Our franchise reaffirmed its leadership position in the second quarter across M&A and equity and debt products and delivered a very strong performance.

We were number one in announced global M&A and advice on four on the top five and eight of the top 10 announced transactions in the first half of 2009.

Significant second quarter advisory assignments include amongst many others, Rio Tinto and BHP Billiton's $58 billion venture and DirecTV's $14.5 billion merger with Liberty Media.

This quarter, we gained share across capital markets, leading significant deals, and demonstrated executional strength.

We were a leader in helping financial institutions recapitalize, including equity capital raises for US Bancorp, State Street and SunTrust.

We continue to lead significant deals in July, including advising General Motors in its emergence from bankruptcy and Rio Tinto's $15.2 billion rights issue.

Second quarter investment banking revenues of $1.1 billion were up 38% from the first quarter of this year, on strength and underwriting across all regions and exclude fees associated with the issuance of our own equity and debt.

Advisory revenues declined 35% sequentially, as overall M&A market volumes remained subdued.

Equity underwriting revenues nearly tripled from the first quarter this year in a surge in volumes, driven primarily by the recapitalizations in financial institutions and REITs.

Fixed income underwriting revenues increased over 60% from the first quarter on higher investment grade, high yield and municipal bond issuance.

Equity sales and trading revenues of $681 million were negatively impacted by $757 million, from the narrowing of debt -related credit spreads on firm issued structured notes.

Cash equity revenues were up 11% from the first quarter of 2009 on higher commissions across all regions.

Derivatives reported low revenues down 13% sequentially as decreased volatility created fewer trading opportunities, partially offset by higher client activity, and prime brokerage revenues improved 50% sequentially from a shift in balance mix and increasing client balances.

Average client balances increased 10% from last quarter, while balances in our top 50 accounts increased 16%.

Fixed income sales and trading revenues of $973 million, included losses of $1.3 billion and the narrowing of credit spreads on firm issued structured notes.

Excluding this DVA, fixed income sale and trading revenues were up modestly from the first quarter of 2009 as weakness in commodities muted the results reported by interest rates, credit and currency.

We were more constructive on the fixed income markets in the second quarter, as evidenced by our strong results and credit trading.

However, we have seen some relative underperformance in other areas.

We are actively investing in our businesses and aggressively hiring key talent.

Earlier in this week, we announced that Jack Demayo, a recognized name will be joining Morgan Stanley as Global Head of Interest Rate, Credit, and Currency Trading.

We believe Jack is Ideally suited to help us drive in our fixed income business as we look to further strengthen our client flow businesses.

Commodities recorded weaker revenues, consistent with th e typical seasonal pattern despite the weakness this quarter, year-to-date results are 6% ahead of last year.

Excluding the DVA and commodities, fixed income revenues were up over 35% sequentially.

Interest rate, credit, and currency trading revenues combined were up 16% sequentially on the higher activity levels.

Interest rate products reported a strong quarter driven by market volatility.

Credit trading revenues were up 12% sequentially.

Within credit trading, credit corporate had a standout quarter, with revenues up 92% from the first quarter this year, primarily from investment grade and distressed trading as the credit markets remain volatile and we increased market share.

Currencies reported consistent revenues driven by market volatility.

On a year-to-date basis, interest rate and currency trading revenues combined were up 54%, with interest rate products up 99% and credit trading up 87%.

Details on pages 14, 15 and 16 of the financial supplement are our mortgage-related gross and net exposures.

Aggregate mortgage related net exposures were reduced from $9.1 billion to $7.9 billion during the quarter.

Other sales and trading revenues benefited from spread tightening and valuation gains in our lending business, which include leverage acquisition finance and relationship lending.

Net gains in this quarter were approximately $600 million.

However, these gains were offset by the combined impact of tightening credit spreads on Morgan Stanley's debt related to CIC's investment of $195 million and other losses from hedging activities.

Total outreach trading and nontrading value at risk increased $154 million from $142 million last quarter, reflecting an increase in our nontrading VAR.

Nontrading VAR increased to $108 million from $83 million, primarily as the result of increased lending exposure on higher market valuations.

Average trading VAR declined to $113 million from $115 million, reflecting small declines in interest rates and commodity risks.

Turning to page eight of the supplement in our global wealth management business, the results of the Morgan Stanley/Smith Barney joint venture are now fully consolidated within the segment, effective with its closing on May 31.

Accordingly, this quarter included the joint venture results for the month of June, as such comparisons to prior periods are not meaningful.

Revenues were stable and consistent despite the slowdown in the retail market.

Non-interest expenses were $2 billion, and included approximately $245 million of JV-related integration costs, of which $124 million is compensation for replacement awards the Smith Barney employees contributed to the joint venture.

The costs of these replacement awards was fully allocated to Citigroup's noncontrolling interest, although they do appear in our compensation expenses.

Non-interest expenses also reflect $33 million of amortization of the previous announced FA retention awards, $29 million of amortization of intangibles related to the joint venture transaction, and a $25 million FDIC special assessment charge and deposits.

The business reported a pretax loss of $71 million.

Excluding the JV-related integration cost, PVT was $174 million and PVT margin was 9%.

On page nine, you can see the quarterly productivity metrics of the business.

Prior periods have not been restated.

The number of FAs is 18,444 and total client assets were $1.4 trillion.

Net US and outflows of $2 billion reflect continued outflows from legacy Smith Barney that are trending down from recent highs.

Deposits in our bank deposit program now total $106 billion, of which just over $50 billion is held by Morgan Stanley banks.

Turning to asset management on page 10 of the supplement.

Asset management had a pretax loss of $239 million driven by real estate related losses within merchant banking, including $111 million pretax loss in present.

Core asset management was profitable for the second consecutive quarter.

Overall for the segment, revenues of $575 million increased significantly from the first quarter of 2009, and were primarily driven by gains of SIVs, gains in investments and our private equity and alternatives products, as well as gains on investments made in association with our employee deferred compensation and co-investment plans.

Principal investment revenues included gains in our private equity, alternatives, and other seed investments, partially offset by $154 million in real estate losses of which $16 million are related to present financial assets.

Principal trading revenues were negative in the quarter as mark to market losses of $131 million, on a lending facility to a real estate fund sponsored by the firm and other real estate investment hedging losses were partially offset by a $128 million gain on the disposition of our remaining SIV dispositions that have been reflected on our balance sheet.

Management and administration fees were 7% higher on a sequential basis, driven by a more favorable asset mix despite near flat asset balances.

Non-interest expenses for asset management increased 29% from last quarter and include a $38 million impairment charge related to present.

The increase was primarily driven by higher compensation and hider revenues.

Noncompensation expenses decreased 14% sequentially on lower impairment charges.

Turning to pages 11 and 12 of the supplement, you can see the assets under management and asset flow data.

Total assets under management decreased to $361 billion during the quarter, as market appreciation of $30 billion was partially offset by $25 billion in net asset outflows.

Nearly all of the quarterly outflows were not core business, primarily from fixed income funds which include our money market funds, show the preponderance.

The outflows in long-term fixed income related to our past performance issues as you reported last quarter, we continue to see our performance improve in these products.

Outflows in equity are primarily related to management changes and certain mandates moving from actively managed to passive products.

We continue to see improved performance in our equity products evidenced by an increase in our loss of a percent of assets performing in the top half of level one and three-year categories.

Now we turn to page 17 of our financial supplement and look at our firm-wide real estate exposures.

Our real estate gross asset exposure as reflected in our statement of financial condition, which includes Crescent and other consolidated interests, investments in real estate and infrastructure funds and bridge financing was $4.6 billion at the end of the quarter, down from $4.9 billion at the end of last quarter.

Including $1.7 billion of contractual commitments and other arrangements with respect to these investments, our total exposure would be $6.3 billion.

This exposure excludes assets in investments for the benefit of certain deferred employee compensation of co-investment plans.

Now a summary, a few words of the outlook.

As I said, 2009 continues to be a year of transition.

There's some evidence of improving economic conditions, and we have become more constructive in the market.

However, housing markets continue to be challenged, and we expect deleveraging will be a multiyear process as US consumers undergo a shift in their behavior.

There are bullish factors as well.

Capacity has left our industry.

Corporates need to reequitize, refinance and relever, and clients need help in managing their risk.

We are well positioned with a favorable business mix and limited consumer exposure.

This quarter we did achieve a number of successes.

In June, we were among the first financial institutions to repay TARP.

Post repayment, our capital ratios continue to be industry-leading, and we are operating with excess capital.

In May and June we successfully completed two equity capital raises and two unguaranteed debt offerings.

Morgan Stanley's brand and client franchise were reaffirmed by the robust investor demands, which included our international partners in Japan, MUFG, and China, CIC.

We are hiring in line with our strategic goal and we will continue to invest in talent for the balance of the year.

Institutional securities, our core business, continues to demonstrate the strength of our leading client franchise.

Investment banking exhibited strength in underwriting.

Prime brokerage improves, launched a new custodial services through our trust Company, which will further drive continued gains in market share.

Within fixed income, we had excellent results in credit trading and we are focused on adding talent to grow revenues and improve results in other areas.

Global wealth management posted solid results despite the challenging retail environment.

The close of our joint venture with Smith Barney was successfully accelerated and the integration is on track.

We've established a multipronged approach to fixed asset management have begun the execution phase.

We merged two of our fund to fund businesses to form alternative investment partners with roughly $20 billion of alternative assets.

This will drive expense efficiencies and ultimately improve margins.

With innovative idea generation, leading sales and trading teams, trusted client relationships and enhanced risk management, Morgan Stanley remains one of the only financial intermediaries with the scale, global footprint, and range of capital markets expertise sought by institutional and retail clients worldwide.

Thank you.

With that, I'll now take your questions.

(Operator Instructions).

Your first question comes from the line of Guy Moszkowski of Banc of America.

I wonder if you could walk through the components of the increases and decreases in book value over the quarter that allowed you to keep book value flat or actually slightly up in the quarter, despite the fact you had about a $1.10 loss?

Well, I think if you begin with common equity, as you know, $29 billion you have dividends of $1.4 billion.

You have the common stock offerings of $6.9 billion.

You have the gain on the JV, the Morgan Stanley/Smith Barney JV of 1.7 and you have a small amount of others, about $0.5 billion.

You end up with minority interests so you end up with $37 billion.

Right.

Fundamentally, most of what offset the net loss must have been the joint venture gain, which didn't go through the P&L, right, because the share issue you did was basically at or below book.

Correct.

Okay.

I just want to make sure that I understood that.

Can you talk about the change in the capital allocations on a unit by unit basis, your institutional capital allocation fell by a couple of billion, went up by a couple of billion on GWM.

You're unallocated because the capital raise went up by $4 billion.

In terms of the changes in the shift in the units, can you just talk about the increase in global wealth management and the decrease in the institutional business?

The increase in global wealth management is taking on board the assets from Smith Barney and the joint venture and the increase in risk weighted assets themselves.

Within fixed income, within institutional securities, the slight decline actually is tied into the camaraderie of what happens with DVA, the debt valuation adjustment as that comes back.

That's what really what the delta is even though we took the balance sheet up.

Right, but you didn't choose to roll any from the unallocated into the institutional business to make up for the DVA.

I'm zeroing on that, I guess.

It's really a function of how much the business wanted to operate.

So while we did increase VAR as a proxy of economic capital, if you want, in some of the businesses in other areas, we didn't take as much risk as we could have done, which I alluded to before, so it was flat.

That's what happens.

So we are positioned to put more capital into those businesses when we see the right returns on a risk adjusted basis.

And obviously in the investment grade trading, we did and distressed debt, we did.

We could have applied more capital into the business for instance, interest rate and foreign exchange.

We should sort of watch that space as the new management takes hold it sounds like?

I would hope that we are going to be applying more capital for those businesses, yes, correct.

And then turning to the joint venture, I was wondering if you could help us understand how much of the increase in net revenues that we saw versus last quarter came from the increase in FAs due to the joint venture closing in the beginning of June as we try to think about sort of run rates for revenues and the same question really for core expenses?

I think it's just very difficult to do that.

I don't want to establish that precedent as we actually do have now a joint venture.

So what I'd rather do on a going forward basis, Guy, just plot it that way.

Okay.

Fair enough.

I guess my final question is about the effective tax rate, 54%, and you talked about a change in the geographic mix and change in use of tax credits.

The geographic mix could be what it is.

54% seems very high.

Are you losing the usability of some tax credits or something that's driving that very high tax rate?

It's a gain, isn't it?

Even though we have losses, we'll be able to utilize tax credits in 2009 on a tax basis.

So really, it is a function of that.

So the answer's no, we won't.

Okay.

Thanks very much.

Thanks.

Your next question comes from the line of Glenn Schorr of UBS.

Hello there.

Hey, Glenn.

Just piggybacking on the wealth management appreciating not carving out the relative of contribution.

Maybe just a bottom line, if you look at the head count in terms of FAs, a little more than $10,000 a head, sounds like Smith Barney had a lot more than that.

I don't know if that's a timing thing or what contributes to that.

Part two of that would be, is there any color commentary in terms of what pretax margins on any normalized basis looked like inside wealth management?

Is it tracking according to plan?

There was modest net outflows in the quarter, just trying to get any commentary, it's a big part of your new identity.

Just any color would be helpful.

I think it's very difficult, Glenn.

I'm not being evasive, because we're trying to true up, you know, with the integration with the merger actually completing ahead of time.

Obviously, we had some lag in Smith Barney as people were leaving and coming in and we had the compensation costs as we were adjusting across.

We've seen nothing in the integration that would derail all our view of the merger and the expected synergies and costs we would expect.

Also, if I look at the numbers, if I look at the global wealth management group, where we were in the add-ons, I don't see any discrepancy in the numbers as you describe.

So I'd rather wait till next quarter where you can see it.

Our margins remain solid on the line list.

I don't want to get into the track of describing Morgan Stanley versus Smith Barney when it indeed is one company.

Don't worry.

We can move on.

The inside asset management, the outflows are brutal.

You mentioned there's a comprehensive view on a piece by piece basis, if you will, within asset management, and you're starting to execute on that.

Is that something that would be shared with us or are we just expected to play out over time?

In other words, when there was a wealth management clean up program in place when James came on board, there was that pretty slide show that showed the next two to three years.

You guys executed awesome on it, right, and easy for to us track.

My gut tells me asset management's going to be a little more underneath the covers.

I think that's right.

As you know, to talk about our asset management business, you're essentially talking about four businesses.

So we have four plans, right?

The merging banking business, which is primarily a real estate business, is suffering cyclical frets.

I think we've been open about that.

Then you have the core business, institutional and equities which we believe we've taken costs out of.

We changed management there.

We got better managers there, performance in improving, and there's the retail business itself, right where we have some performance issues.

All of them have a common theme, which is cost control.

I think we've agreed that asset management's strategically important to us, and what we will do is give you more color on that going forward as to when we make any deviation from that plan itself.

Okay.

Cool.

The last one is related to the comment you made on capacity has left, I agree, but it's only left certain parts of the business, like for instance, where we'll sit in cash equity is probably as bad as ever.

So maybe as you reshift and rejigger on the heels of your Ray Rock announcement and everything, as you rejigger what the fix mostly but the whole ISG platform is going to be versus where capacity is left, I just don't know if capacity's left in the high risk-weighted asset businesses and therefore what you're building is actually capacity hasn't left that much.

I don't know if that question makes sense.

No I think it does make sense.

I'm firmly of the opinion that capacity has gone out.

The businesses that we actually ourselves are de-emphasized.

Structured products and things like that.

I think the growth is coming in the traditional flow businesses, and we've been always well positioned for that.

So I think we will do well, and that is built into our models.

My concern about anything that moves away from flow structure is that it can bring with it quite a large regulatory tail risk in terms of recomputation of risk-weighted assets, capital allocations and so on, is one of the reasons we're carrying some of the excess capital we're carrying.

We feel very confident If you go back through the last five decades, Morgan Stanley has always been in the top rank of leading players.

There clearly is a model change in the business.

We've seen the de-emphasis of certain types of investors.

We've seen the abolition of certain types of products.

We're talking about repointing the business to focus on what we're good at, primarily flow businesses.

I think the capacity is left there as well.

I think we will be well positioned to take advantage of that.

That's an offer we'll be able to trade.

Thanks, Colm.

Your next question comes from the line of Howard Chen of Credit Suisse.

Good morning, Colm.

Hey, Howard.

Any more color you could provide on the hedging loss this quarter?

There was no basis risk in there by and large, right?

We obviously had some losses from mark to market moving some swaps and redesignation of those hedges we mentioned last quarter related to our debt.

Nothing significant.

It was just a potpourri of stuff if that makes sense.

Digging in on equity sales and trading, DVA aside, sounds like you saw improvements within the cash equities business, was curious if you could provide what some of the offsets were during the quarter.

If you look at it, we actually had market share gains in what we call our delta one, our cash businesses and our financing businesses.

We had good results in prime brokerage just to give you some color there.

A number of clients return with balances in excess of $0.5 billion.

Since January 2, our tier one clients increased 23%, while the tier four, which we have been trying to de-emphasize, have decreased 14%.

So our tier one balance is actually increased 14% from the second quarter.

So it's a bit a tail effect.

That's against the background of redemptions early in the year.

We feel comfortable that we're resizing that business and making it as profitable as we could.

What really happened if you look away from that downsizing of prime brokerage, which is coming back, is that in derivatives, we weren't as successful as we've been normally, and we don't think there's anything there other than absence of client flow in our case.

I still think our equity numbers look reasonably solid.

Okay.

Helpful color.

Thanks, Colm.

With respect to capital, you've said in the past, you said again today, you believe the firm is overly capitalized.

You raised a significant amount of capital during the quarter.

Ratios are high, so any sense of why you'd like to -- where you'd like to target the tier one common in the intermediate term?

Obviously, we have internal targets.

I can't give external comments because I'm suggest to what my regulators would like me to do.

What's clear is that tier one as a ratio has been augmented considerably by tier one common.

We obviously had a composition of capital mismatch, which is why we did the raises this quarter around.

We now feel we're very robust on Tier one common.

I would suggest without wanting to upset people that we got an excess of the hybrid type of capital in our tier one capital ratio, and overtime as markets normalize, we would look to deal with that.

Right.

Okay.

So as a follow-up to that, Colm, I guess, assuming you are above your internal capital targets, then first part of the question, what's the priority?

Is it dividend restoration, share repurchase, internal deployment ar strategic acquisitions?

Second part of the question, with respect to that capital composition part, do you think that potentially impedes your timing of letting some of that excess capital go if you do, in fact, have it?

I think we're reasonably underlevered at the moment.

We can dedicate more capital to he businesses.

The balance sheet could be taken up higher, I'd like to deal with that first, I think any talk about repaying buying back shares or increasing dividends at this stage are premature at this stage in the cycle.

We'll address that when we come to it.

Okay.

Final one for me.

Could you just provide us a sense with the marks, where they stand on the legacy assets for the quarter?

Yes.

Let me just get that for you.

So just run through them.

CMBS bonds low to mid-40s in the US 32, in the U.K.50.

Senior commercial loans, low 80s.

Mezzanine commercial loans mid-40s, Alt-A mid 20s.

US and UK residential loans mid-60s.

Subprime ADS/CDO mezz low teens, our leveraged finance portfolio is low 70s, and our secondary loan portfolio would be mid-50s.

Is that okay?

That's great.

Thanks so much for taking my questions, Colm.

Your next question come from the line of Richard Ramsden of Goldman Sachs.

Good morning.

A couple of questions.

The first is on the comp to revenue ratio, it's come in about 71% for the first half.

I know you talked about competitive market pressures in the press release.

I'm just wondering,there anything structural that we should be aware about that's impacting that number such as higher fixed comp expenses than in the past?

No.

We did increase fixed comp for managing directors from 300 to $400,000.

But I don't think that's the main driver.

First of all, 71% is our revenues being impacted by DVA.

If you ex DVA out, we're actually improving our revenue, our comp to net revenue on an annualized basis out on the 49%.

So we have to be competitive.

Clearly, that's the basis of our revenue projection.

If markets improve, then you can start scaling back a bit from what the revenue accrual would be, but clearly we're not in normal markets yet, to make long-term assumptions about what confident revenue should be at this stage.

On a look forward basis, there's no reason to believe it should change from what it's historically been?

I don't know if that is a fair statement, Richard.

I would suspect that on a look forward basis in more normal environments, you would expect to see a comp to revenue trending down.

Okay.

The second question is just more broadly on the institutional businesses because I know at the end of Q1, you did talk about increasing risk.

That seems to have happened to a degree.

I'm just wondering, though, were there other factors during Q2 that impacted your risk appetite such as, I don't know, the need to keep liquidity to pay TARP or the results of the stress test or was this in line with what you were thinking at the end of Q1?

No, I don't think liquidity is impacting our ability to take risks.

I mean, we're very firm that we need to keep a pool of liquidity, and that cheerly has a net carry drag, which I understand.

That is a relatively small price to pay for confident markets which we still think aren't totally out of the woods yet.

We have the ability to take risks, and as John mentioned in his comment, we can take risk.

In those area where's we've taken it, we've done well.

It's just a question of continuing to apply more economic capital to business areas and take the right sort of risk.

What I would always caution people on is that we very much look at risk adjusted returns.

It's not just a question of trading on a binary basis.

And that's the way we view things.

It's trading on the back of our customer flow and I think in certain areas we could have done a bet other job than we did.

In some areas we did do a good job.

Thanks a lot.

Your next question comes from the line of Mike Mayo of CLSA.

Hi, Mike.

Can you talk about the investment banking backlog, where it stands relative to last quarter?

The IPO backlog is very strong.

Let's begin with the good stuff.

The investment grade debt and high yield backlogs aren't strong enough from last quarter, but the investment banking backlog is down from last quarter.

If you remember it's been weak for a while.

I would say that, M&A still looks as though it's being somewhat challenged.

I still believe that we're primarily in an M&A triage environment.

That's the challenge we face.

For that to improve, we have to see access for unsecured funding markets and people feel they can finance activities.

How much is that backlog down in aggregate for underwriting and M&A?

In aggregate, I would say -- trying to get a sense of that.

I think we're probably down from last quarter not too much about 14% but from last year obviously quite significant.

Sure.

As far as wealth management, do you have a little bit of buyer's remorse?

The only reason I say that, I look at the net new assets being down 1%, and I know you aren't talking about the separate entities anymore.

The Smith Barney side seem to be weaker than your side, and that seems to be following through.

Also, a related question, the net new assets, does that reflect only one month of Smith Barney outflows or somehow restated for the fourth quarter?

Only reflects one month of outflows.

We have absolutely no buyer's remorse at all.

We're actually really comfortable with the acquisition and the joint venture itself.

We're very pleased with it.

So, but just the net new assets being down, can you give any additional color on that?

I think there's a lot of noise there Mike.

We have a much better sense of where we are next quarter when things normalize.

Remember, these were to companies going at different speeds at different times when things came together.

I think you just have to wait for things to settle down.

Okay.

Then last question, on this, a general question.

The sustainability of trading.

How -- I mean, you have to model that for your kind of expense control and a related question to that is, how much of your different versus peer is due to people.

I know you made a management change, and how much is due to the process itself?

It's -- I don't think it's structural is the answer to the question.

I think we punched below our weight.

We have a very strong client footprint.

We can predict a number of factors in terms of our forecast of expense control, all of which make me feel better in our case, they are sustainable and can be better.

And the sustainability of trading, I mean, is everyone going on vacation over the summer and the trading should be a lot less or it's still continuing into the quarter?

It's still continuing at the moment.

Obviously, July began with the July the 4th weekend but I see nothing yet that's causing me ground for concern.

And bid ask spreads are just as wide or getting a little narrow?

I'm getting mixed signals from the comments so far.

I'm certainly not hearing that from people.

Thank you.

That is anecdotal.

Thanks.

Your next question comes from the line of Roger Freeman of Barclays Capital.

Good morning, Colm.

Hi, Roger.

I guess I wanted to come back to calm for a second.

As we look at ex DVA as I calculated it was 45% in the first quarter and then closer to 50 in the second.

As you talk about that comp being driven by sort of competitive pressures and not referencing expectations for full-year revenues and profit, how do we sort of look at that?

Is that step up to 2Q all a function of what we're hearing is a much more competitive environment for hiring top talent?

Does this 2Q sort of a run rate we need to be thinking about?

First all, we've given additional disclosure this quarter, we've given you compensation per segment.

You can see we have our global wealth management, asset management security business.

I'm trying to point out to you all is that the nature of our compensation payout is changing.

In the case of global wealth management it's much more of a grid structure payout, which is not discretionary, it's grid, right?

With institutional securities, can you work out what the ratios are as well.

So I think we've given you more color so you can look at a blanket percentages which is comparing an apple to an orange.

In the case of some of our competitors, you'll get a better handle.

Clearly we have to pay competitively.

We are a preeminent investment banking franchise in our institutional securities business, and we feel very confident about our prospects going forward.

Obviously, everyone would like to have far more revenues to make the compensation issue easy.

In terms of competitive pressures we clearly aware of that.

We're also very aware of the loyalty of the employees of this firm who have been here for a very long time.

Hopefully, if you analyze the three segments, you get a clearer sense of what we're doing with comp.

Then I guess within equities trading, I guess what I'm curious about is with respect to your strong equity underwriting, would I think you saw stronger trading on the back of that.

I guess the question is, what has the trends and facilitation been?

It seems that's really what drove Goldman's trading line this quarter.

Not significantly.

The equity business delay, we run our equity business by and large is different than some others.

We have clear gains in delta one, the commission-driven business, we had clear gains in prime brokerage relative to where we were.

There's one Delta in equity derivatives which I say does not cause a great deal of concern.

I think, by the way, relative to our other peers, the numbers are not at all bad.

That's true.

On the derivative side, were you long ball throughout the quarter?

The guys were long ball last year in the first quarter and the guys very cleverly reduced that position.

Okay.

Commercial real estate, I was looking inside of your real estate fund.

Looks like $5 billion decline in AUM related to writedown.

There's $2 billion of outflows.

Suggested like a 20% writedown.

I guess my question is then you look at sort of Crescent and your marks there are something like 8%.

So there's a fairly large discrepancy.

But I guess my question, I asked this last quarter, too.

What would drive significant impairment there on your remaining exposures?

Would it be financing related?

If so, what do you have coming due on those properties this year or next?

It is financial related and primarily.

We don't talk about individual valuations per se, and we have given you a lot of disclosure on Crescent, and remember it's a gross, not a net exposure on Crescent, and we do do impairments tests, and we have said that we had to consolidate the subsidiary, which is why it suffered the accounting treatment it does.

So I can't add much more than that.

Lastly then, just within credit trading, was there much of a benefit from the decline in negative basis between cash and derivatives this quarter that would have benefit the trading book?

I wouldn't be able to answer that question specifically.

We saw very strong client flows in investment credit trading.

We did see good positioning profits as well.

But I think it was generally narrowing the spread.

With regard to the basis, I can't answer that specifically, I'm sorry.

Thanks, Colm.

Thanks.

Your next question comes from the line of Meredith Whitney of Meredith Whitney Advisors.

Hi, Colm.

I have just a straightforward question.

I'm sorry if you went through this.

I see this footnote of the restatement of the EMEA revenues and the regional breakout.

If you could provide more color in terms of what happened in EMEA and is it the run rate for the last few quart ers?

Forgive me if you already went over this.

No, I didn't.

It's a great question.

The structured notes actually hits Europe.

If I was in the back of the envelope recalculations, you're basically talking 53% Americas, 40% Europe, 7% Asia.

So that those two are one-time hits, those last two quarters?

Well --

For unusual items, is that a better way?

If you remember, our debt spreads widened out significantly in 2008.

If you want trade idiosyncratically towards the group.

The Morgan Stanley spread is normalized, our spread has come back in all the way now, so we are trading more or less the same as our competitor, right, and better than some.

So my view on DVA going forward is I can't predict whether it's going to go up or go down, but did will trade in line with the financial system itself rather than idiosyncratic state of Morgan Stanley.

It does.

So I'm going to assume from your comments that EMEA starts to no normalize on perspective quarters then, but not from current levels?

That's right.

Absolutely.

My next question trying to push you farther about your newly constructed view of the market, what's the timing between you see when you start to really put not reallocation of capital but actually add more leverage to the business?

Look, I think first of all, I'm constructive.

I wouldn't say I'm bullish.

I think the thing is we always said we thought you needed market stability to return to allocate efficiently and properly.

There are clear signs of market stability returning.

First of all, you're getting term in the term financing market.

Secondly, you're getting CP coming out.

You're getting access to unsecured debt.

Funny enough, Morgan Stanley reopened the hybrid bank market yesterday.

You probably saw that where he did a deal for BB&T which we totally pushed down our retail pipeline.

Those make me constructive about the market itself about the stability of the market.

When I'm concerned about is the macroeconomic picture which is the consumer deleveraging which we spoke about.

But now that we've got market stability, We feel much more positive about applying capital to segments and taking advantage of trades.

And we are there.

This quarter, we did more trades reasonably well.

We could have traded better in one or two other areas.

Thanks, Colm.

Your next question comes from the line of Michael Hecht with JMP Securities.

Hey, Colm, how you doing?

Hey, Michael, fine.

Just going back to the core performance in FIC this quarter, I'm getting about $2.3 billion less the DVAs, which I think was better than the first quarter but still billions less than your peers.

As you guys invest here and increase your risk appetite in the flow business, how should we think about the opportunity?

I mean, something closer to the 4 to $7 billion per quarter, your large peers like Goldman and Citi and B of A and JPMorgan have been earning each quarter?

Clearly, we can do better.

Despite being more constructive on the markets, some trading debts didn't see the opportunities that our peers might have done.

As a result, we didn't take as much risk as we could have done as you can see our trading bar is flat.

Now, there may be some legacy issues for some of those people in terms of risk appetite fourth quarter of 2008, but we're beyond that when we see what other people are doing in the market.

What did we do with fixed income?

We took incremental risk and applied capital and investment grade credit and distressed debt.

We traded the mortgage area well.

We think possibly top three investment grade distressed and mortgage trading revenues.

We are seeing market share gains there.

Clearly we need to apply that discipline to the area where's we've improved, we didn't perform as well as we could, and give than we have as good a client footprint as anybody and better than most, we think that is easily remedied.

We're addressing share issues by hiring talent.

We're hiring more D&A, interrates and foreign change.

We have made management changes, but that was part of an ongoing process.

We're talking about taking advantage of the dislocation in market to bring improvement to strengthen the bench.

So I don't think it's a fundamental issue for us.

It's something we can easily address and have done before.

Now that that's fair enough.

Just kind of speak a little more color on the Smith Barney integration.

It's easy days.

Any disappointment you can speak to on the technology side and talk to maybe your confidence in the expense energies that you kind of laid out previously of around $1 billion and also part of that just broadly broker retention is running versus your expectations.

I mean it's really too soon.

I would be misleading.

I think some newspaper reports have been misleading.

Everything is on plan.

I would say we're slightly more pleased than we thought.

We closed the deal earlier.

We have no issues with retention so I would rather hold off to next quarter where we can give you something more substantive order on that.

We closed this early, right.

It's a big achievement.

There's a lot of sort of cleaning up here.

I agree.

I saw that press article as well.

I was kind of surprised because it seemed like early days.

Just the last one for me.

Is there a way for to us think about potential dva markdowns from here.

You guys have about $6.4 billion in gains in 2007 and 2008.

So far this year, including the piece in December.

Reversals of about $4.1 billion.

So how do we think about the potential overhang for DVA?

I understand where you go from here.

Is there a cumulative amount of reversal you should think about?

Well, I can answer it in one way.

I think we're now in line.

Remember our DVA is based upon bond spreads not based upon CVS spread.

If DVA is going to come in, it's because the whole financial system is being rerated and viewed as a better credit, I'm assuming for that to happen, things are getting better elsewhere.

So I would hope we would get some compensating writeups and positions that we've got.

I can't predict what dva would do, but I can tell you it's no long an idiosyncratic issue of Morgan Stanley, we're in line with the pack.

Thanks a lot.

We have time for one more question.

And that question will come from Buckingham Research.

Good morning.

Good morning.

On the asset management business, what is the long-term game plan there?

Obviously, if you look at your stale, not that your subscale but smaller than some of your peers, Merrill got out of it because of conflict with the large brokerage business.

You certainly had issues around performance and flows.

Is that something you want to scale up, you want to scale down?

Would you consider acquisitions to bolster it longer term.

Obviously, in the near term you've got your hands full.

Just trying to think through the long-term strategy in asset management.

As I said before, there are really four businesses there and you have to look individually and what we do believe is that the business broadly fits into our wealth management, asset management strategy where there are synergies and that makes sense.

Our first job is to continue doing what we're doing, which is to improve performance and take out our necessary costs.

James Goldman, our co-President is specifically looking at the strategies in each of those segments.

We have looked, and I said to you before, James, that a number of alternatives do you dispose of this?

Do we do a contribution-type deal, do we fix it ourselves?

We're very much focused on the latter of the moment.

I know it's frustrating for you all because it's a slow thing to fix.

I have promised where we get improved performance and we make decisions supporting those businesses.

We will keep new touch.

Is there any value in perhaps accelerating the acquisitions, obviously a lot of the asset management companies themselves that are publicly traded that are hit pretty hard.

As you mentioned, you have excess capital.

Is there any appetite for that?

Not at the moment, we have a strong view that we need to focus on what we have and make sure that that is efficient making key hires for that.

Obviously, we'll keep options open.

Our core case is to actually optimize what we have.

Okay.

Fair enough, thanks.

Thank you very much, everybody.

There are no further questions.

Gentlemen, do you have any closing remarks?

No, thank you very much.

Thank you for your time.

This concludes today's conference.

Thank you for your participation.

You may now disconnect.