摩根士丹利 (MS) 2013 Q4 法說會逐字稿

Good morning.

This is Celeste Brown, Head of Investor Relations.

Welcome to our fourth-quarter earnings call.

Today's presentation may include forward-looking statements, which reflect management's current estimates or beliefs, and are subject to risks and uncertainties that may cause actual results to differ materially.

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

Please see our SEC filings at MorganStanley.com for a reconciliation of such non-GAAP measures to the comparable GAAP figures, and for a discussion of additional risks and uncertainties that may affect the future results of Morgan Stanley.

This presentation, which is copyrighted by Morgan Stanley, and may not be duplicated or reproduced without our consent, is not an offer to buy or sell any security or instruments.

I'll now turn the call over to Chairman and Chief Executive Officer James Gorman.

Good morning.

Thank you, Celeste.

As we begin another year, I wanted to update you on our thoughts on the state of Morgan Stanley and where we're headed, as well as provide you with a list against which you can mark us to market through 2014.

Let's walk you through the list we laid out last January, and then take you deeper into some of the strategic areas in which we have focused; in particular, those that will drive the greatest earnings in ROE upside for the Firm.

There are slides available on the website, and then Ruth will take you through the quarterly review, and together, we'll take questions at the end.

2013 was a year of playing offense for Morgan Stanley.

Outside of some of the legacy legal issues from the crisis period, our focus was on moving the Firm and our strategy forward, and advancing down the path to meeting and beating our cost of equity.

We achieved or advanced a number of strategic objectives, including the six defined in January of last year.

Specifically, we acquired 100% of the wealth management joint venture.

We achieved our wealth management margin goals through expense management, and exceeded them through revenue growth.

We made significant progress toward our RWA reduction goals to fixed income and commodities, and exceeded our 2013 and our 2014 targets.

We're on track to meet our expense targets for 2014, excluding litigation.

We're also on track to meet our long-term goals of growing earnings through Morgan Stanley-specific growth opportunities.

And finally, we've made progress towards returns that meet and exceed the cost of capital, excluding litigation, and we began our first buyback since 2008 in the middle of last year.

Like all of our peers, we have litigation exposure, which is laid out in extensive detail in our filings.

In addition to the high legal expenses we incurred in the first three quarters of 2013, we took a charge of $1.2 billion in the fourth quarter.

Obviously, we cannot predict the future, but we believe this move represents significant progress towards putting these matters behind us.

The steps we will outline for you today are a continuation of what we discussed a year ago, and are consistent with the strategy that this management team put in place four years ago.

We have six strategic focus areas, and again, you can follow along with the slides on our website.

We will achieve our goals in a prudent manner without taking outside risks, and taking into consideration the need of all of our stakeholders.

Number one: Continue to drive wealth management through margin goals and higher cost -- improved cost initiatives and revenue growth.

In mid-2013, we increased our margin targets to 20% to 22% by the end of 2015, driven by the upside from owning 100% of the wealth management business.

We reached the bottom of that range in the fourth quarter, excluding the impairment, driven by partial recognition of the benefits of owning 100%, as well as higher markets.

Based on where the S&P closed 2013, and our expectation for deposit deployment, we are now raising our target for year-end 2015 to 22% to 25%, even without the benefit of higher rates.

Second, fixed income and commodities: We have a three-fold plan to drive our returns to greater than our cost of equity in fixed income and commodities.

Number one, optimize the commodities business by reducing our exposure to physical commodities.

Number two, improve the efficiency in ROE of our other fixed-income businesses through centralized or federalized management of resources.

And number three, continue to reduce risk-weighted assets.

In regard to commodities, we announced late last year that we're selling our global physical oil business.

This will be done in two parts.

The first is the transaction we announced with Rosneft, which included the sale of our oil-merchanting business.

The second component is our intention to explore strategic options for our stake in TransMontaigne, which is a separate discrete entity that provides a wide variety of distribution and storage services for oil-related products in North America.

We believe we can generate an acceptable ROE with the remaining commodities business, which is also more consistent with our client base across sales and trading.

Outside of commodities, we have philosophically changed the way we run fixed income from a highly segregated to a highly federalized model, with a more strategic approach to resource allocation division-wide, and a particular focus on expenses, technology, capital, and balance sheet.

We have achieved normalized ROEs around or above our cost of capital in almost all product areas, except for rates.

We're aligning our approach in rates to be more consistent with that of the rest of fixed income, with a leadership team that has a heightened focus on balance-sheet utilization and high velocity.

Finally, we've moved forward our fixed-income and commodities RWA target by one year.

Previously, our target was to reach the $180-billion RWA level by the end of 2016.

Now, we expect to reach that level by the end of 2015.

Third area is expenses.

Let me update you on where we are versus the targets we set out a year ago.

We said that, assuming flat revenue, our expenses would be down $1.6 billion by the end of 2014, which implied an expense ratio then of 79%.

Of course, our revenues grew in 2013, and we're on track to meet or beat the 79% expense ratio implied by the $1.6 billion target, assuming revenues in 2014 are higher or in line with 2013, and excluding litigation above 2012 levels.

Because we expect revenue to continue to grow in 2014 and beyond, we'll focus our discussion in the future on these ratios.

Our target expense ratio for 2014 and beyond is less than 79%, assuming flat or higher revenues, and excluding legal expenses, again, above the 2012 levels.

Marking to market 2013, our expenses were up for several reasons.

First, we had expenses that are not likely to recur in 2014, including several write-offs in wealth management.

Second, we, along with the industry, experienced elevated legal expenses.

Adjusting for those two factors, our expense base in 2013 would have been $26.1 billion, reflecting a 79% expense ratio.

Additionally, revenue grew 9% during the year, and we thus experienced growth in activity, relating expenses to those revenues, including compensation, brokerage and clearing.

Excluding activity-based expenses, our fully adjusted expense base in 2013 would have been $24.5 billion; more than halfway through the reductions we discussed with you a year ago.

Let me now turn to the fourth topic, which is Morgan Stanley's specific growth opportunities, and most notably, in the Bank.

We've spent a great deal of time in the last year introducing you to the upside associated with the Bank, and in the deck you have, on slide 11, we've laid out the upside very clearly.

Revenue growth in our Bank will be driven by three tailwinds, including: Growth in the deposit base and associated assets, the optimization of these assets; moving cash into AFS and lending; and finally, upside from higher rates.

The significant revenue growth will flow through wealth management and institutional services with exceptionally high incremental margins, well above the margins we're generating today, as we've already made the infrastructure investment.

By the end of 2015, we expect to have an asset base of approximately $160 billion.

Based on current market rates, and our expected asset mix at the end of 2015, the blended yield would be 1.8%.

If we substitute the yields indicated by the forward curve on the same asset base, the average yield would then be 2.7%.

The fifth topic is, of course, the return of capital to shareholders.

We intend to prudently increase our return of capital to shareholders over time, subject, of course, to regulatory approval; increasing both our share buyback program and our dividend, reflecting a greater percent of our revenue and earnings coming from more stable businesses.

The key driver of increased returns to shareholders over time are our increasingly consistent earnings, our strong capital ratios, and finally, our strategy that is consistent with evolving regulatory requirements.

Finally, the sixth point, which is, of course, our ROE returns.

Our focus is to drive higher returns for shareholders through sustainably improving our ROE to levels equal to, or in excess of, our cost of equity, even without a cyclical recovery.

Assuming no improvement in the institutional and retail markets, normalized litigation expenses, execution of our Bank strategy and expense initiatives, a strategic solution for physical commodities, and centralized fixed income, as well as wealth management margin improvement, we believe we can reach ROEs above 9% and ROTs of 10%.

Then, assuming excess capital would get us to or above 10% levels on ROE and 11% on ROT.

Of course, an improved operating environment would drive those numbers further.

I will now turn it over to Ruth to walk you through the fourth-quarter results.

Thank you.

Good morning.

I will provide both GAAP results, and results excluding the effect of DVA.

We have provided reconciliations in the footnotes to the earnings release to reconcile these non-GAAP measures.

The impact of DVA in the quarter was negative $368 million, with $285 million in fixed-income sales and trading, and $83 million in equity sales and trading.

Excluding the impact of DVA, Firm-wide revenues were $8.2 billion, up 1% versus the third quarter.

Earnings, and earnings per share, included $1.2 billion, or $0.40 per share, of legal expenses.

The effective tax rate from continuing operations for the fourth quarter reflects an overall benefit of $348 million, including a discrete benefit of $192 million.

Earnings from continuing operations applicable to Morgan Stanley common shareholders, excluding DVA, were approximately $384 million.

Earnings from continuing operations per diluted share, excluding DVA, were $0.20 after preferred dividends.

On a GAAP basis, including the impact of DVA, Firm-wide revenues for the quarter were $7.8 billion.

Earnings from continuing operations applicable to Morgan Stanley common shareholders were $144 million.

GAAP results also included $1.2 billion, or $0.40 per share, of legal expenses.

Reported earnings from continuing operations per diluted share were $0.07, after preferred dividends.

Book value at the end of the quarter was $32.29 per share, and tangible book value was $27.21 per share.

Turning to the balance sheet, our total assets were $832 billion at December 31.

Deposits as of quarter end were $112 billion, up $8 billion versus 3Q.

Our liquidity reserve at the end of the quarter was $202 billion, compared with $198 billion at the end of the third quarter.

Turning to capital: Although our calculations are not final, we believe that our Tier 1 common ratio under Basel I will be approximately 12.8%, and our Tier 1 capital ratio will be approximately 15.7%.

Risk-weighted assets under Basel I are expected to be approximately $389 billion at December 31.

Reflecting our best estimate of the final Federal Reserve rules, our pro forma Tier 1 common ratio under Basel III was 10.5% at December 31.

Pro forma risk-weighted assets under Basel III are estimated to be $428 billion.

Our pro forma Tier 1 common ratio under Basel III was negatively affected by approximately 50 basis points, due to an increase in our operational risk RWAs, which resulted from higher legal costs in the quarter.

This was partially offset by earnings accretion, and the ongoing reduction in fixed-income RWAs.

We expect our pro forma supplementary leverage ratio to be approximately 4.2%.

This estimate reflects the United States proposed regulatory rules for the numerator and the denominator, and is subject to change if rules evolve.

We continue to expect to exceed the required 5% level in 2015, including an assumption for increasing returns of capital to shareholders.

On slide 14 of our strategy deck, we have outlined the drivers of our path to an SLR of greater than 5% in 2015.

Sources within our control include: exposure compression and RWA reductions; earnings accretion; and other numerator drivers, including DTA reductions, increased investment capacity, preferred issuance, and other reduced numerator deductions, which, in aggregate, could drive approximately 180 to 210 basis points of improvement in our ratio.

Potential offsets include balance-sheet growth and capital returns.

Turning to expenses: Total expenses this quarter were $7.9 billion, up 20% versus the third quarter, but up 1% excluding the legal item I noted.

Compensation expense was essentially flat to the prior quarter.

Non-compensation expense was $3.9 billion, reflecting higher legal costs.

Let me now discuss our businesses in detail.

In institutional securities, revenues, excluding DVA, were $3.7 billion, down 4% sequentially.

Non-interest expense was $4.4 billion, up 34% versus the third quarter.

Compensation was $1.6 billion for the fourth quarter, down 4% versus the third quarter, reflecting a 42% ratio, excluding DVA.

Non-compensation expense of $2.9 billion reflects the elevated legal expenses due to settlements, and additions to reserves related to legacy residential mortgage-backed securities matters associated with the credit crisis.

The Business reported a pre-tax loss of $745 million, excluding the impact of DVA.

Including the impact of DVA, the pre-tax loss was $1.1 billion.

In investment banking, revenues of $1.4 billion were up 37% versus last quarter.

Results were driven by increased revenues in all products: equity underwriting, advisory, and fixed-income underwriting.

According to Thomson Reuters, Morgan Stanley ranked number 3 in Global Announced and Completed M&A, Global IPOs, and Global Equity at the end of the fourth quarter.

Notable transactions included: In advisory, Morgan Stanley is a leader in cross-border activity, with transactions including Portugal Telecom's $15.7-billion merger with Oi SA, which represented the largest M&A announced deal for the quarter, as well as Perrigo's $8.6-billion acquisition of Elan.

In equity underwriting, Morgan Stanley acted as the advisor to Crown Castle International as lead left bookrunner and stabilization agent on common and mandatory offerings, while also acting as lead left bookrunner on a $3.4-billion senior unsecured committed bridge facility.

In debt underwriting, event-related financings included Morgan Stanley acting as lead left bookrunner on Devon Energy's $2.3-billion debt offering in support of the company's acquisition of GeoSouthern Energy's Eagle Ford assets.

Advisory revenues of $451 million were up 64% versus our third-quarter results, driven by increased revenues across regions.

Equity underwriting revenues of $416 million were up 76% versus the third quarter, also driven by increases across regions; in particular, in Europe, as well as the significant increase in IPO volumes.

Fixed-income underwriting revenues were $495 million, up 3% versus the third quarter, driven by loan syndication fees, partially offset by decreases in investment-grade underwriting.

Equity sales and trading revenues, excluding DVA, were $1.5 billion, a decrease of 12% from last quarter.

Results were strong for a fourth quarter, with robust client activity across regions and products.

Cash equity revenues increased, driven by higher volumes in most major markets.

Derivatives revenues remained healthy, although declined from a strong 3Q 2013.

Prime brokerage revenues and balances were up in 4Q, and were the highest since 2008.

Fixed-income and commodity sales and trading revenues, excluding DVA, were $694 million.

Commodities revenues were meaningfully lower in a difficult market.

Revenues outside of commodities were up slightly sequentially, despite a larger sequential drag from CVA.

Revenues were driven by increases in credit, foreign exchange, and securitized products, partially offset by lower results in rates.

Client volumes held up relatively well across businesses in the fourth quarter, though remain subdued, in line with the industry.

Investment revenues of $177 million were down versus the third quarter, which included the sale of the insurance broker hub.

Average trading VaR for the fourth quarter was $51 million, essentially flat to the third quarter.

Turning to wealth management, revenues were $3.7 billion in the fourth quarter.

Asset management revenues of $2 billion were up versus last quarter, reflecting the benefit of higher market levels at the beginning of the quarter, and positive flows.

Transaction revenues increased 10% from last quarter, consisting primarily of commissions of $576 million, which were up 14% versus the prior quarter due to a pick up across products; investment banking-related fees of $206 million, up 11% versus last quarter, reflecting an increase in equity underwriting activity; and trading revenues of $323 million, up 2% versus the third quarter, reflecting higher deferred-compensation plans.

Net interest revenue increased 7% to $528 million, driven primarily by higher revenues from our bank deposit program, and continued growth in our lending product.

Other revenue increased to $110 million from $75 million.

Non-interest expense was $3 billion, up versus last quarter.

The compensation ratio was 58%, flat versus the third quarter.

Non-compensation expense was $876 million, up 10% versus last quarter, due to an impairment charge, as well as the typical seasonal increase in expenses.

The PBT margin was 19%, and was 20% excluding the impairment charge.

Profit before tax was $709 million.

Total client assets were up versus the third quarter, to $1.9 trillion.

Global fee-based asset inflows were $12 billion.

Fee-based assets under management increased to $697 billion at quarter end, representing 37% of AUM.

Global representatives were 16,456, essentially flat to the third quarter.

Bank deposits were $134 billion, up versus the third quarter; approximately $104 billion were held in Morgan Stanley banks.

Investment management revenues of $842 million were up 2% from the third quarter.

In traditional asset management, revenues of $430 million were up 17% from the third quarter, driven by higher market levels.

In real-estate investing, revenues of $160 million were down 31%, driven by a decline in carry, as last quarter we had a significant benefit from carry catch up.

Merchant banking revenues were $252 million, up 12%, reflecting increased deferred compensation plans, as well as higher investment gains from an IPO of an existing private equity investment.

Expenses were $505 million, down 4% from the third quarter.

Profit before tax was $337 million, up 12% sequentially.

NCI was $46 million versus $64 million last quarter.

Total assets under management increased to $373 billion, driven by market appreciation.

As to our outlook: In investment banking, the momentum evident in the fourth quarter persists as we enter 2014.

In particular, the M&A pipeline continues to build on the back of improving global economies.

The drivers evident in 2013 remain; namely, cross border transactions, financial sponsors, and activists.

We expect further upside from, one, the pick up in corporate as distinct from sponsor buyers, as well as, two, the uptick in activity in EMEA after very muted levels for the last several years.

The outlook for equity underwriting in 2014 remains healthy, especially relative to the low volumes in EMEA and Asia experienced in 2013.

Trading volumes and client activity across sales and trading are beginning to reflect confidence in global growth.

In wealth management, our outlook for 2014 is similarly constructive, given higher markets, lending growth, and ongoing improvements in retail investor engagement.

Our revised PBT margin targets help quantify the upside we see in this business.

Finally, we would expect return on equity to further benefit from an increase in capital returns upon completion of the CCAR process at the end of Q1.

Thank you for listening, and James and I will now take your questions.

(Operator Instructions) Glenn Schorr, ISI.

Within your plans for Fixed Income, I was wondering if you could elaborate on how we get the ROE up in rates?

Is it an ROE focus as opposed to revenue focus?

I appreciate that.

The focus is an ROE focus as opposed to a revenue focus and as we indicated, we have a number of areas that are driving the overall ROE higher.

First and foremost, we talked about commodities and the steps that we're taking in commodities.

We are selling two physical oil businesses there.

The first one we've talked about, we've announced the sale to Rosneft in December.

We expect it to close in the second half of 2014.

The PBT in that business is essentially breakeven and it has about $4 billion of risk-weighted assets, so accretive to returns there.

With respect to the second business, TransMontaigne, we'll share more when we have something to say on that.

With respect to moving to centralized management, we have a very systematic and clinical approach, really, to optimizing returns within each of our businesses.

It's a focus on revenues, expenses, and capital.

We're continuing to balance those to drive returns in rates as we have in other businesses across the platform.

Rates right now is still the biggest revenue piece of FIC, I take it?

As I said, we're really focused on the overall returns in the business and we're looking at, within each of the product areas, revenues, optimizing revenues, expenses, and capital.

We've really driven returns within FIC across products to levels on a normalized basis that are at or above cost to capital.

We, in fact, made significant improvement in foreign exchange this past year and are, at this point, operating with returns basically in line with our cost of capital when you look at RWAs on a normalized basis.

The next one to add here, with the same approach, is rates.

Okay.

Speaking of RWA, hopefully, I did the math right and I think Basel III RWA was up 3.5% almost, quarter-on-quarter.

I'm just curious, because I know the overall focus is down in Fixed Income and down overall, was there anything in particular that drove that this quarter?

Because I know the direction is going the other way.

You're right.

We've been reducing risk-weighted assets within fixed income, but the reason there's an addition here is the key component of the calculation is ops risk that captures litigation.

With the higher reserve here in the fourth quarter, that would change the overall calculation of the ops risk capital charge, so that's what you're seeing.

A question on that, Ruth.

Does that happen in the quarter that you realize higher legal costs or is that a permanent addition that kind of sticks through the process until further notice?

The way it works is with the addition of a sizeable data point within the overall distribution of data points, you have to calculate ops risk.

Once you add a more sizeable data point, as we did here, data in the tail would affect the overall calculation.

Smaller pieces, kind of in the belly of the distribution, don't actually have an impact on the capital charge.

Once it is in the data set, it remains in the data set until you see a change in the distribution.

It is in there for some time.

Got you.

If James is right on his comment of putting most of the stuff to bed, maybe within a year's time, you start to get the benefit of that.

I know the CCAR process moves slow.

Last one, Wealth Management loans and commitments were up another 10% this quarter, up almost 50% year-on-year.

I guess there's the PLA component and all the securities-based stuff and the mortgage part.

I don't know if you can share with us which one of those is growing and of the overall pie, how important is it to Wealth Management in general?

Because I know it comes on a different comp grid.

Overall loan growth is important to Morgan Stanley across businesses.

We're having deployment supporting growth and institutional securities, as well as Wealth Management.

In fact, on the ROE walk, it's the most important incremental driver to returns.

But to your question, with respect to Wealth Management, what you're seeing is the benefit of the growing deposits, better asset optimization, and then what that translates into growth is across both PLA or the securities-based lending product and residential mortgage.

There's more of it in PLA.

Although I would say in the mortgage side, we've continued to see strong demand.

Historically, we were deliberately constraining production there because we were both focused on client experience.

In fact, applications were up in the quarter.

But the bigger part of the growth has been PLA and again, what we're benefiting from here, as we've talked about on prior calls, is we're underpenetrated relative to our peers.

This is very logical consistent product for them.

Okay, thanks Ruth.

Guy Moszkowski, Autonomous Research.

Just a quick question on the SLR first of all, did you have a chance to think about what the impact of the final BIS add-ons that were announced last weekend would be?

We have been working through that.

It's a complex calculation, in particular with respect to the net long CDS sold portion of it, as you know well.

Our preliminary calculation is we are approaching 4% on that basis, well above the 3% required.

Great, that's helpful.

You talked about a number of drivers to get the SLR on the NPR basis up to the 5%.

Can you talk a little bit about what the implications might be of some of those moves for revenue and I guess that's where maybe it gets into overlap with what you're doing on the rate side?

The path to greater than 5% in 2015 and again, that's including an assumption about increasing returns to capital, I just break them down into the numerator and denominator.

In the numerator, not only do we benefit from earnings accretion, but there is a multiplier effect because of certain deductions; most notably DTA and the investment capacity deduction.

The investment capacity is based on the size of Tier 1 capital, so clearly as Tier 1 capital increases, you have a larger basket, smaller deductions.

We're holding capital against certain items that fall into that basket amount, like our joint venture in [moms], that eats into the bucket.

When the bucket gets bigger, there are fewer deductions and then there are specific steps that we can take to focus and that we are taking to focus on items that are captured in the investment bucket.

I would think of it as earnings accretion and then a multiplier impact on that for the reasons that I just described.

When it's being efficient with some of those numerator deductions that's not, that doesn't have an impact on revenue.

Preferred, obviously, also adds to the numerator.

The dividends, you could say, would be the deduct, but it adds to the overall Tier 1 capital and as well, to, therefore, the investment bucket.

In the denominator, we continue to have a benefit from the RWA rundown.

As we've talked about, that's an area that are not accretive to revenue.

I'd say the other one that is important is compression and I would put that in the bucket of just good hygiene.

We've invested quite a bit in central clearing, backloading into central clearing and it gives us greater opportunity for compression.

We're seeing more interest in that from banks on both sides of the Atlantic.

Again, that's just in the category of good hygiene.

I think that we're very comfortable with the implications of the various levers we have to move up to the greater than 5%.

It doesn't sound like you've loaded into that a lot of the strategic changes that you might be making in rates?

For example, changing the way you look at repo or anything like that?

No.

The assumption that's embedded in the slide is consensus earnings, but I'd say that the other items that I enumerated are very important and no, there isn't a change in assumption on some of the other items.

Got it.

Is there a new sort of breakeven level of FIC revenues that you need to achieve to get to that ROE equal to your cost of equity?

When I say breakeven, I mean specifically, a level of revenue that you would need given your cost base in order to get the whole FIC business to earning its cost of equity.

I think in the past you've talked about $6 billion or so and I just wonder if it's lower.

Let me answer that by just pointing you back, for example, to commodities.

We've talked about the thing we are clinically focused on is driving returns higher in that business.

To your question, you focused on one of the three levers.

It's revenues, it's expenses, and it's capital optimization.

As I indicated with the business that is being sold to Rosneft, at this point, it is essentially PBT breakeven for Morgan Stanley.

It has about $4 billion of risk-weighted assets in it, so yes, there may be a diminution in revenues there, but when you look at the cost structure running that type of business within the BHC, it's more valuable than the hands of an industrial player.

We have higher capital liquidity levels associated with the business and that's why we say what we're looking at is ROE.

That is a smart move for us, for the business, for our stakeholders.

It's accretive to ROE, although there's some revenues that go with it.

Got it.

That's helpful.

One of your big competitors took a large charge for FVA as they adopted that approach on their derivatives book.

Maybe you can tell us whether you currently do that or not and whether that's something that you're contemplating?

That obviously refers to the potential implied financing costs for uncollateralized derivatives, to the extent that those are observable.

We do continue to evaluate it.

There's been a lot of industry discussion around FVA.

In our view, transparency has been lacking and to date, in our opinion, there is not a basis to take the adjustment.

From a risk management perspective, we do allocate capital and liquidity down to the product and [desk] level across our sales and trading businesses.

Liquidity is allocated based on our liquidity funding model, which models outflows in a stressed environment and those are, as I said, allocated down to the product level.

From a risk management perspective, the businesses are being charged appropriately.

That is different from seeing transparency in the marketplace.

Got it.

Last one for me, you mentioned FX as having achieved some success there in terms of getting the returns to where you want it to be.

I did notice that, in the quarter, your FX VaR is up a significant percentage off where it was before.

Does that reflect changes in the business or just market volatility?

No, the FX was up quarter-over-quarter and it just reflects plan activity.

Got it.

Thank you very much.

Brennan Hawken, UBS.

Within ISG, was there a shift this year to less deferrals?

Would that maybe have put a little bit of upward pressure on your GAAP comp expense figure?

I'm just trying to maybe think about that even if we don't get specific numbers, just from a narrative perspective.

The ISG comp ratio, I think you have this, is down from 45% to 42% this year.

We did bring down the deferral rate, as we indicated we would.

The deferral rate has come down.

When you think about our kind of comp ratio on a go-forward basis, our view is that it will trend down to about that 40% range.

Okay.

But with deferrals coming out, that would have put, all else being equal, even with the comp ratio coming down, some upward pressure on that ratio, isn't that the right way to think about it?

Yes.

Okay, great.

Thinking about a dividend that you guys sort of introduced in slide 13, if we think back to 4Q trailing GAAP earnings when you guys submitted the CCAR, which clearly includes some headwinds, but in any event, we know that the Fed sort of looks at that and very simplistically, we just imply a 30% pay out ratio to that it would imply a $0.50 dividend per year.

Any issue with the math on that?

Do you think that people thinking about it that way would be too aggressive?

Let me answer it this way: our view is that the way to maximize return of capital over the longer term is to request steady consistent increases in capital returns in the interim, as opposed to any type of discontinuous moves.

Given the ongoing accretion of capital and higher ratios at Morgan Stanley, we think that now it's the right time to increase the size of our share repurchase program and begin to increase the dividend.

I started with our philosophy because I think it's an important way to frame how we think about legging into any kind of change.

Okay.

Okay, that's helpful.

As we think about Wealth Management, and you guys have had terrific momentum there, clearly, and your outlook for improvement there and high net worth engagement continuing to improve, do you expect that would increase the fee rates that you guys get on your managed assets?

That had been under a little bit of pressure recently and it's sort of at lower levels.

Does that reflect a lower level of engagement?

Does your expectation for increased engagement mean that probably should, all else equal, have upward pressure there?

No.

Okay.

It's asset mix so no, the answer is no.

Okay.

Last one, you guys are looking for like a near doubling of the loan book, as you laid out in the slide deck, from now until 2015.

How much of that doubling should we count on from Wealth Management versus Institutional?

As we watch the disclosures that you guys give in the supplement, is it mostly in the held for investment lines that we should be watching?

I think you have a couple of questions in there.

We laid out the asset growth by product, or I discussed it at a conference earlier in the year.

The loan growth overall is supporting both, as I said product in Wealth Management as well as Institutional Securities, so we talked already about mortgage and PLA within Wealth Management.

In Institutional Securities, the product is similarly very consistent with our client franchise where we have strong domain expertise areas like commercial real estate, project finance, continuing to expand with our clients.

It is primarily HFI.

We've really migrated to HFI over the last several years and we see this as prudent steady growth across a suite of products to support growth in those two businesses.

We laid out the products in the deck that James went through, so you can get a sense of the suite of products on both sides.

Okay, thanks for the color, Ruth.

Mike Mayo, CLSA.

I think you said the margin ROE targets do not reflect a change in interest rates.

What is Morgan Stanley's sensitivity to higher interest rates; for example, a 100 basis point increase in Fed funds?

We gave two targets and let me make sure we're very clear.

When we focused on increasing the PBT margin in Wealth Management, we kept it on a basis consistent with the way we described it last year.

Last year, we had a Wealth Management target of 20% to 22% and we said we were holding rates and equity markets constant.

So as we hit our 20% PBT margin this quarter, excluding the impairment for 20% PBT margin, we took our guidance up for Wealth Management and that, again, is holding rates constant.

We don't give ourselves the benefit of even the forward deal curve.

It's holding rates where they are today and holding equity markets where they are today.

If we now switch over to our ROE walk and look at the upside that comes from the bank, with respect to the upside in the bank and the slide that looks at asset optimization and the yield on the various categories, in that we've embedded the forward yield curve and nothing more than the forward yield curve.

We've tried to give you a lot of the pieces with respect to asset growth and the mix and that assumption so that you can deal with all the sensitivities that you think are appropriate, given your outlook on the market.

If you did have a 100 basis point increase in Fed funds, then we could assume a higher PBT for the Wealth Management business?

Yes.

Rates, obviously, are benefit to the bank overall and to the Wealth Management business.

You mentioned prime brokerage is back to the best level since 2008.

Is it all the way back?

I know the business was hurt during the crisis and you're trying to get customers back.

Are you back at a steady state or are you still gaining share?

We're in a very strong business with PB and I'd say that there has been a quite substantial change, overall, in prime brokerage over the last several years, the restructuring of that business and the way the business is funded post '08.

We're in a strong position with balances, I think, best reflecting strength of it and the overall contribution of the franchise.

We feel very good about where we are in that business, very important business to us and the team continues to deliver.

In FIC, compared to your peers, it looks like you underperformed, and it's tough to break out how much of that underperformance is due to the deliberate downsizing versus poor execution.

Are you satisfied with the execution this quarter or not?

A couple parts to that question as well -- as a reminder, Fixed Income and Commodities made up of the Fixed Income product and commodities, two separate, two different businesses, FIC on the one hand, Commodities on the other.

We were substantially weaker in commodities down meaningfully quarter-over-quarter.

The FIC revenues, excluding commodities, are up quarter-over-quarter, notwithstanding the bigger drag in CVA, due to spread tightening.

In our securitized products area, in credit, in foreign exchange, they were all up in the quarter.

To your second part of your question, feel good about the direction of those businesses.

Rates was down, as was the market, and our view is that we can continue to deliver more in that business, which is why it was highlighted in James' comments.

I would just add to that, Mike, I wouldn't draw a lot on percentage movements off of that number, which is a fairly modest number to begin with, to be perfectly frank.

I'd focus more on the business mix, as Ruth described, parts of the business did well, parts of it didn't.

The new Management has a plan to drive this higher and we complement their plan.

Last question, Ameritrade last quarter said that the wire houses have made some moves which make it more difficult on the breakaway broker side.

I'm not exactly sure what the online broker is referring to, but can you just address what you're doing, say, to either retain customers or brokers or how the environment's changed several years ago; say, for example, against online brokers or other competitors?

Thanks.

Attrition in our business, you can see it from the headcount numbers, continues to be very low.

It's actually down a bit this quarter from the very low levels that we've been talking about.

We think that has a lot to do with the quality of the platform.

When you look at our ongoing growth in assets, they are reaching $1.9 trillion this quarter, I think again, the clients are speaking and the FAs are speaking.

Okay, thanks.

It's a different market segment.

All right, thanks.

Michael Carrier, Bank of America.

Maybe for James, just on the walk, the ROE target, I guess I'm just trying to figure out, when I look at like a pre-tax margin being increased, the risk-weighted asset reduction coming on sooner, expenses in line, the market up 30%, but the ROE target is still in that 9% to 10%-plus range if we get a better environment.

I'm just trying to figure out, it seems like it should be better, meaning it seems like things have gone better than current expectations or what the expectations were a year ago.

I'm just trying to get a sense on, have some things gone the other way to keep the ROE target there, or is it just being conservative?

This is a journey.

Three years ago, I think our ROE was close to 2%.

Two years ago, it was 5%.

This year, ex-litigation, it's about 7%.

You'll see on that chart, Mike, that we've got a return target of 10%-plus and then we talk about the additional upside, so you can draw your own conclusions from that.

But I think we've said pretty consistently, we're a one step at a time management team.

The one step is to get us at 10% and we'll deal with that happy opportunity once we get there.

So let's just play it out at a time.

Okay, thanks.

Based on getting more clarity around Volcker, you guys have been more strategic in terms of moving forward in FIC than maybe some other firms.

But in any of the other areas, particularly Investment Management, maybe on like the merchant banking side, are things fairly much set or should we be expecting much more to change in that part of the business, based on what you know on the Volcker side as of now?

I don't expect material changes to the Investment Management business, post-Volcker.

We had a lot more capital tied up in that business, pre-crisis.

The bad news is we wrote a lot of it off, unfortunately.

The good news is we have much less capital tied up in the business.

Okay, thanks a lot.

Devin Ryan, JMP Securities.

I just want to try to ask maybe the interest rate sensitivity question another way.

I think the last formal update that we received was that a 100 basis point curve shift would increase net interest income by about $700 million.

Is that still the firm's view?

If that's still in the range, can you give us any insight around how you're thinking about the liability side of the equation; meaning, how much of the benefit of the rate increase do you expect you have to pass along to customers?

The rates have moved up a bit since we provided that guidance and that's why we attempted, in the material here and in the slide deck, to break out the various component parts so that you can imply whatever timeline you want to it and look at it at various points in time.

Clearly, in a rising rate environment there would be a modestly higher increase in deposit costs as well, but overall, we have meaningful operating leverage from this.

I think, again, one of the key points for us, with respect to the bank, is the cost structure of the bank.

We don't have client acquisition costs because we're talking about our indebted client base, both on the Wealth Management side and on the Institutional Security side.

We don't have bricks and mortar.

We've made the investments, virtually all of the investments that need it, we continue to invest in the businesses; of course, in particular, continue to improve the customer experience.

But as a result, the incremental margin on this product is very high for Morgan Stanley, substantially higher than it is today.

It's not just that we've clearly benefit from a rising rate environment and look forward to that whenever that may occur, but it's also the cost structure of that business that is very different.

Okay, appreciate that color.

With respect to the litigation expense, how should we think about that moving forward?

I know it's going to be lumpy, but can we think that maybe some of the out sized provision this quarter could reflect some pull forward from issues that maybe you are thinking that were going to be addressed next year?

Just any other additional color there would be helpful.

As James said, this reserve coupled with the reserves to date are appropriate based on what we now know.

That being said, litigation is the biggest headwind for the industry, but this is obviously a substantial move.

The key on the litigation is, we wanted to make significant progress.

It's estimable and probable and working with a legal team and financing some, that's where we came out.

From what we see, we made significant progress.

Okay, great.

Lastly, within the Investment Banking backlog, can you guys give anymore granularity around what you're seeing?

The businesses, from a cyclical perspective, kind of where you are today versus maybe what you think the upside may be as we do get a cyclical recovery?

The pipeline does remain strong.

I think most gratifying is the pick up in M&A momentum coming from CO confidence that we've all been looking for, for quite some time now and it's really on the back of more data that supports the thesis of global economic growth.

We are seeing more cross-border activity.

We've talked about that on some prior calls, the Suntory deal that we announced earlier this week is yet another data point in that trend.

We think that's an important one.

I did comment that we're seeing more activity with corporate.

I think last year, much of it was much more about financial sponsor activity, but now we're also seeing more corporate activity and very valuable is increased participation from Europe, as well.

It's been pretty subdued there for quite some time.

We feel good about where this is and if you look, historically, M&A is still at pretty low levels.

Equity underwriting momentum continues industry-wide and globally and I think with debt underwriting, it's less of a forward calendar.

But given event-related financings, we expect some ongoing strength in that area, as well.

Great.

Appreciate all the color.

Matt O'Connor, Deutsche Bank.

As we think about the ROE progression from roughly 7% ex-litigation to the noise right now to 9%, it seems like the improvement in PBT is worth about 1% to ROE and then the FIC and Commodities is a big driver.

Can you quantify how much ROE upside there is from that?

I understand there's been a lot of questions asked about the revenue opportunities, the expense opportunities, and there's kind of some moving pieces there.

But from an ROE point of view and if you get FIC and Commodities where you want, how much of a driver is that to firm-wide ROE?

What I'd like to add to your list, because it's the most important incremental driver to ROE, is the bank.

I've commented on higher yield through asset optimization and the cost structure we have.

We also have growing deposits and those are contractual.

It's part of the acquisition from Citi that we're now getting in $1.75 billion of deposits per month through the middle of next year.

The result is a higher return on a larger base and given the cost structure, the incremental margin is substantial, as I've already noted, so it essentially just all drops to the bottom line.

So you start with that.

I'll let you do your own forecasting and math on that plus the Wealth Management and higher profitability that we've laid out here on the slide.

In fixed income, yes, we are taking steps, we're moving it forward, but we're not assuming a recovery in the FIC market.

That's not biggest driver, not much there.

We have more on the expense reduction program to come and as James said, then finally, the increasing returns of capital over time.

I just want to make sure you've got the full list and again, the importance of the bank is not to be understated.

I would just add, at a macro level, if you think about it simplistically, our comp to revenue ratios aren't going to change a whole lot.

We've broken down this year given revenues went up and we would expect them to come down as revenues go up, so that's kind of known.

The firm is being managed very tightly from other non-comp expense bases.

We have a comprehensive worldwide effort, as Ruth just referred to, making progress on that and we're not going to take our foot off that.

We're driving those non-comps very aggressively.

So really, it's just a question of what the revenues are.

I think the clarity of our expense base is probably as high as its been for a long time and now, as we said with the substantial progress on the litigation behind us, it really is a revenue share right now.

Just a follow-up on the expenses; of the $1.6 billion of the savings, how much is in the run rate either for the full year 2013 or for 4Q?

I'll refer you to the slides that James went through where we tried to break out the key components of it.

Okay, thank you.

Christian Bolu, Credit Suisse.

Just to follow-up on an earlier question on the 100% growth you expect in London, it would just be helpful to get some color on where you'll see such robust loan demand.

Is it completely new loan demand from your clients or is it your clients switching from existing lender providers to you?

What is it about your lending program that is driving such outsized growth relative to the industry?

If I break it down into the two sides of the business that are benefiting most from deposits: first, on the Wealth Management side, we're lending to clients where we have a deep relationship, their assets are at Morgan Stanley, and what we talked about is we're underpenetrated relative to peers with lending product.

It had not historically been a focus for our system.

Over the last several years, we've been building up the number of bank advisors who sit with financial advisors providing the requisite support for their client base.

We're starting in a position where we're underpenetrated as the client assets with us.

This is product the clients want.

It's simple product.

For example, PLA, our securities-based lending program, enables clients to maintain their portfolio as is, but continues to invest as they want to.

It's a very productive add-on to the work that they are already doing with us.

Again, given this is product that's significantly overcollateralized and as I've said, with our existing client base, we've had virtually no credit losses to date.

It's mostly floating rate product and you're seeing growth, we're seeing nice growth in that.

It's the bigger part of lending growth within Wealth Management and I'll refer you back to the conference I did earlier in the year where there's more detail on that one.

The mortgage side, we are continuing to see strong demand.

To be fair, it's off of a low base, but we were deliberately constraining production there, as I already noted; so, continuing to see upside in that business.

If you switch over to the Institutional Security side, we have historically been focused on relationship lending and event lending, as you would expect.

What we're now adding are what I'd always characterize is like sleeves of product, all modestly sized, that are consistent with the client franchise that we have.

This is business that otherwise we were not doing with our existing client franchise.

This gives us the opportunity to continue to build and that's what we've been doing in areas like commercial real estate and project finance.

Great, thanks for the detailed answer.

Switching over to capital return, I'll concede that the quantum of capital (inaudible) return will be subject to regulatory approval.

But as you consider the future capital structure of Morgan Stanley, do you envisage being able to return more than 100% of earnings to shareholders in the foreseeable future?

I think let's take one step at a time.

We're in the CCAR process now.

We had our first capital outlay last year, which was the final acquisition of Smith Barney.

We had our first buyback last year since 2008, which was starting the $500 million tranche.

We're participating in CCAR right now.

We'll get the results of that in the first quarter and let's just take our projections from then on.

Okay.

With regards to your 9% ROE target, what fixed income revenue assumption are you making?

Is it $4.2 billion this year or is it more like the fourth quarter's run rates?

I'm just trying to get a sense of what's embedded in that 9% ROE target?

The main point, as I said, about the 9% ROE starting point for the firm is that within fixed income, we're driving a return on capital that's in excess of our cost of capital.

As we indicated with the steps in commodities, there's continued improvement in that ROE, in fixed income across a number of products we've already reached that type of return looking at RWAs or capital on a normalized basis.

We've added foreign exchange in 2013, notwithstanding what was a more challenging foreign exchange market environment, and we're looking to do the same with rates.

It is very much, if we're looking at what's the return for the overall firm, it is about achieving those types of returns for fixed income.

But I'll repeat what I already said, which is we're not assuming a recovery in the FIC market industry-wide in 2014, so it's not much of a driver to the upside in our ROE.

Got it.

A question on regulation into Wealth Management space.

As one of the largest financials that works in the country, just be curious for your thoughts around potential harmonization of regulatory regimes between the SEC and FINRA regulated advisors and any potential implications for Morgan Stanley's competitive positioning?

That's a pretty broad one.

Honestly, we run the businesses and aspire to run it as well as anybody in the industry, work constructively with the regulators.

There are obviously some differences across FINRA and SEC, but I'm not going to get into projecting a harmonization impact on us.

I would be very, very surprised if there are any material impacts on our business based upon any harmonization.

Great.

Thank you.

Eric Wasserstrom, SunTrust Robinson.

Ruth, just to go back to slide 14 for a moment.

Obviously, the simple math is that looking at the potential numerator benefits gets you to 6% to 6.3%.

But I'm just curious about the box you have in terms of potential offsets, which first cites the balance sheet growth.

I'm just trying to reconcile that with what James indicated the targets are on page 11.

Does this outlook on 14 embed this asset growth driven by the deposit growth over the next two years?

When we described or show the growth in assets for the bank to be clear, that's looking at the asset side.

We have deposit growth, but we have equity supporting the bank, so that's the asset side of the equation a bit higher than the deposit growth that we're talking about.

When we go to the potential offsets, we are looking at this ongoing onboarding of deposits and yes, it is built into our statement that it will be greater than 5% in 2015 with growing returns of capital.

We manage, overall, the balance sheet to put our balance sheet and capital behind growth areas within the firm, so we've built in the capacity to have growth within the firm across our various businesses, including the obvious deposit onboarding.

That's one potential offset that has been incorporated into our outlook and the greater than 5% and then, capital returns, I think, speaks to itself.

Got it.

Does this same view get you to the SLR target on the bank level, as well?

We're already at about 6% on our larger bank MSB&A and even higher than that on the other bank.

We capitalized those banks to support the growth that we anticipate and so those are already in a strong position.

As I think about the ROE targets and all this going forward, is it fair to say that the governing issue, at this stage, is much more the compliance with SLR than CCAR capital?

Our view is that we have a very strong flight path to greater than 5% in 2015 and that incorporates returns of capital.

That doesn't serve as a constraint and so the CCAR process is obviously an annual process.

We feel very good about what we've done over the last several years and the last year with the consistency of the businesses that we have, the ongoing accretion of capital, the ratios that we have, but we don't view the SLR as a constraint on that because we built into our forward look a return, increasing returns, of capital.

Thanks so much.

Thanks so much for joining us for our Fourth Quarter call and we'll speak to you in 13 weeks.

Ladies and Gentlemen, thank you for participating in today's conference.

You may now disconnect.