Inside Morgan Stanley's blowout year, the culmination of James Gorman's decade-long war to win Wall Street

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  • Morgan Stanley was nearly toppled by subprime mortgage exposure during the financial crisis. 
  • In 2020, Morgan Stanley inked big deals for E-Trade and Eaton Vance and raked in record revenue.
  • CEO James Gorman is now the highest paid bank exec on Wall Street, and the firm recently named a bumper class of new MDs.
  • Here’s how the bank remade itself over the past 10 years, and why CFO Jon Pruzan says it’s ready for a big growth push.
  • Visit Business Insider’s homepage for more stories.

Morgan Stanley CEO James Gorman was giddy. His firm had just announced it was going to buy E-Trade in the largest takeover by a Wall Street bank since the financial crisis.

It was a chilly day last February, three weeks before the coronavirus would be declared a pandemic. Gorman sat down for an in-person TV interview to discuss the deal.

“So, $13 billion,” the Bloomberg News journalist put to Gorman. “This is a pretty hefty price tag for E-Trade. What do you tell the people on Wall Street who might believe you are overpaying?”

“I think they’re jealous,” said Gorman, who has led the firm since January 2010, a starkly different time when it would be difficult to find anyone jealous of running a Wall Street bank that had then nearly collapsed in on itself. “That doesn’t bother me at all.” 

He smiled, laughing throughout his response, and said he viewed the price — a roughly 30% premium to where the online broker’s stock had been trading — as reasonable, or roughly “four and a half months of last year’s earnings” to buy an “iconic institution.” 

Gorman’s quip about “jealous” rivals would all but set the year’s tone. 

The all-stock E-Trade deal closed in October. Just days later, Morgan Stanley said it would buy investment manager Eaton Vance for $7 billion in a deal set to close next quarter. JPMorgan was a losing bidder, according to the Financial Times

The two deals marked the biggest financial services tie-ups announced in 2020, according to S&P Global Market Intelligence.

Morgan Stanley meanwhile raked in record revenue and pre-tax profit in 2020. It took the second spot in M&A advisory rankings and bumped JPMorgan down to No. 3, according to Dealogic data. And its fixed-income trading division notched its highest revenue in a decade. 

Gorman got a 22% raise, making him the highest-paid Wall Street chief with $33 million in total comp. Goldman Sachs’ David Solomon meanwhile got a pay cut following big settlements tied to the 1MDB scandal, while pay for JPMorgan’s Jamie Dimon stayed flat. Citi CEO Mike Corbat’s pay has yet to be disclosed, but he announced in September he would step down effective this month as the bank’s risk controls and compliance have come under scrutiny and could require a costly cleanup. 

In January, Morgan Stanley named its largest class of new managing directors in recent years and saw Moody’s upgrade its credit rating back to where it was pre-financial crisis.

The improved rating is an outward sign of all the bank has done internally over the past 10 years. Nearly felled by a $9 billion loss on subprime mortgage exposures during the financial crisis, Morgan Stanley set out to stabilize its financial footing. 

It sold a 21% stake to Mitsubishi UFJ for $9 billion, taking receipt of one of the largest physical checks ever written because banks were closed for the Columbus Day 2008 holiday. It secured a banking license from the Federal Reserve, allowing it to start attracting sticky retail deposits. And in 2015, it scaled back the risk-taking and headcount in the bond trading unit.   

Now, Morgan Stanley execs “are starting to pivot towards growing and growth, as opposed to remixing, repairing, and restructuring,” Jon Pruzan, the firm’s CFO, told Insider in an interview. 

Morgan Stanley has also outlined long-term plans to get to 17% or more in return on tangible common equity — one key measure of the firm’s profitability — and a two-year goal of between 14% and 16%, versus 15.4% as of Dec. 31. 

Here’s a look at Morgan Stanley’s strategy over the years, and what lies ahead for the Wall Street bank. 

Seeking stability

To understand where Morgan Stanley is now, you need to go back to the peak of the financial crisis. 

In September 2008, Morgan Stanley’s future was preserved when the Federal Reserve allowed it and archrival Goldman Sachs to convert to bank holding companies, which gave them access to emergency funding measures. 

It didn’t take long before Morgan Stanley began utilizing its new license to acquire clients’ deposits, reducing its reliance on wholesale funding. Many of the deposits came from high-net-worth clients as the firm used its license to bolster its private-banking operations. 

Those early efforts gave Morgan Stanley the financial strength and good standing with regulators to pursue big acquisitions down the road. 

“We spent the last decade strengthening the firm around the safety and soundness principles and cleaning up some of the issues that came out of the crisis and, methodically year after year, improved and got better and were able to take advantage of opportunities that we saw,” Pruzan told Insider. 

The finance chief joined Morgan Stanley in 1994 and rose through the firm’s investment banking division, becoming head of the financial institutions group in 2010. The role gave him a voice in helping to set the firm’s strategic direction. Gorman named him CFO in 2015. 

Goldman, by contrast, did little with its license until a small group of executives came up with the idea for the digital bank now known as Marcus at a summer offsite in 2014. By then, Morgan Stanley was three to four years into its post-crisis transformation. 

Other changes would soon come. A year after Goldman hatched its consumer bank plan, Morgan Stanley swallowed a bitter pill and cut 25% of its fixed-income trading staff. 

The division had been trying to go head-to-head with Goldman and other trading rivals since 2005, when Morgan Stanley CEO Phil Purcell was forced out and a group of former partners lobbied for the bank to ramp up more aggressive business lines. (That decision in turn contributed to its 2008 bailout.) 

After a search initially focused in another direction, Morgan Stanley handed John Mack the top job. Mack, who helped design the 1997 merger of Morgan Stanley and Dean Witter, had been pushed out by Purcell in 2001. 

Mack presided over an increase in risk-taking until the financial crisis, and then spearheaded the Mitsubishi deal, the bank conversion, and the purchase of Smith Barney brokerage from Citigroup to keep Morgan Stanley independent. He handed the CEO title to Gorman in 2010, and left the chairmanship the following year. 

The huge FICC cuts reflected a broader appreciation of what Morgan Stanley was and wasn’t good at, and was part of a larger strategy to focus on its strengths. 

Morgan Stanley would “rather be deeper and bigger in a business that we feel that we have a competitive advantage versus being shallower and broader and more diversified in lots of different things,” Pruzan told Insider. 

Rebuilding bond trading 

While Morgan Stanley is consistently the industry’s No.1 stock-trading operation, it lags competitors in fixed-income, currencies, and commodities. JPMorgan raked in almost $21 billion in fixed-income trading revenue for 2020, while Goldman turned in $11.6 billion. Morgan Stanley, by comparison, put up $8.8 billion. 

Finding the right balance for FICC trading post-crisis proved difficult. Many businesses, such as physical commodities, were feast or famine. Gunslinging traders — perhaps best epitomized in the era by the Gatorade-chugging rates trading head Glenn Hadden, who resigned in 2014 — took gutsy swings, producing monster windfalls at times but also suffering gaping losses.  

Still, months after the 2015 FICC cuts, amid attempts to rebuild morale and hang on to employees, Gorman said the slimmed-down unit should put up around $1 billion in quarterly revenue, with a greater focus on consistent results. 

“That’s the kind of threshold we want to get the business to and obviously move it up from that point forward,” Gorman said in June 2016, later revising ambitions up to $5 billion a year. The following year, the firm put up $4.9 billion. 

Under the leadership of Sam Kellie-Smith, who has led the group and its restructuring since 2015, the tally has continued to climb. The firm’s fixed-income trading division had the largest percentage increase among peers in 2020, rising 59% and hitting its highest mark in a decade. 

While 2020 was an anomalous year in many respects, the key for Morgan Stanley was that the results weren’t driven by the one-off episodic gains, but rather even performance characterized by high volumes, rapidly turning over the trading book, and avoiding cumbersome, illiquid positions. Significant gains came across macro trading, credit, and commodities. 

In the reimagined fixed-income trading division, where predictability and velocity are prized, the bank has benefited from expanding stable but sleepy revenue generators, like secured lending in structured products, as well as sitting at the tip of the spear of the industry’s technological evolutions.

Morgan Stanley has one of Wall Street’s top operations in the burgeoning algorithmic and bond portfolio trading, allowing the firm to price and sell large bundles of bonds in one fell swoop.

The bank was one of the first movers in portfolio trading, setting up a dedicated team within its credit division in March 2018. That’s evolved into a critical component of their bond-trading business, and volumes increased 85% in 2020, a source familiar with the matter told Insider.

Algorithmic credit trading volumes were up 26% in investment-grade bonds and 43% in high-yield, the source said. 

While bright spots abound in FICC trading in 2020, these innovations helped Morgan Stanley’s investment-grade credit trading desk reap over $1 billion in revenue in 2020, according to sources familiar with the matter, well outpacing Wall Street rivals. 

Melding monster deals, beefing up wealth and investment management 

A push into predictability has been a common theme in other business lines. The firm set out to buy E-Trade and Eaton Vance with distinct though similar rationales: they offer sources of stable revenue.

That goal is now an important part of other Wall Street banks’ playbooks. Goldman Sachs, JPMorgan, and Citi are all looking to beef up their own wealth management services that can lock in clients for the long haul.

One reason the firm wanted E-Trade: it offers a pipeline of retail traders for Morgan Stanley’s force of nearly 16,000 financial advisors to try to sell more sophisticated financial advice. 

“There’s a whole entire population of younger sort of emerging affluent or emerging investors as part of that self-directed channel,” Pruzan said. “They might stay a self-directed client forever, or they might migrate to some of the other products and services that we have.”

Another draw was E-Trade’s corporate stock-plan unit, which builds on Morgan Stanley’s existing equity administration business. In Eaton Vance, Morgan Stanley sought out its Parametric mutual fund family, with clients’ demand for using separately managed accounts growing across the industry, and the responsible investing-focused Calvert business as investors push record flows into environmental, social, and corporate governance funds.

Now, the challenge is working to mesh the new acquisitions together. Integrations of these sizes are high-stakes undertakings, and disruptions to service can rattle customers. 

Sebastiano “Sid” Visentini, who heads firm strategy at Morgan Stanley, is now leading the integration from a firm-wide perspective, Insider previously reported. Michael Hennessy, a managing director who was involved in the firm’s Smith Barney integration — the financial crisis-era deal that cemented Morgan Stanley’s grip on the brokerage business — is also handling E-Trade integration efforts. 

Meanwhile the remarkable volatility in Reddit-touted stocks like GameStop this week highlighted the exposure the bank now has to the growth in retail flows through E-Trade’s brokerage clients. 

One of those clients is Reddit user Keith Gill, identified by the Wall Street Journal this week, who sparked the original interest in GameStop when he began posting about the company under his handle @DeepF***ingValue. Gill, according to the newspaper, is an E-Trade customer. 

The brokerage took similar measures to competitors who restricted activity in certain Reddit favorites as requirements for capital and clearing deposits soared. E-Trade blocked customers’ ability to buy shares of GameStop and AMC last Thursday with the intention to open them up again on Friday, according to reports in Bloomberg and the Verge

A spokesperson for E-Trade did not return Insider’s requests for comment. 

One opportunity for Morgan Stanley is “for those people who have financial assets or want to manage financial assets, making sure that we can provide the appropriate products and services, but also guardrails for them,” Pruzan told Insider.  

Many E-Trade users may have signed up in the last 12 months, and while some might leave when the markets stop going straight up, the bank sees many as “durable and sustainable,” a relationship that could  “grow with them over time as their needs grow,” Pruzan said.

Now as it handles two large deals, there are risks to the firm’s overall performance. As the firm looks to integrate E-Trade and eventually absorb Eaton Vance, some analysts who cover Morgan Stanley have added execution risk to their outlooks.

They are also looking for more details around the firm’s long-term profitability goals Morgan Stanley outlined last month. 

On the fourth-quarter earnings, one analyst said the firm’s long-term aspiration of reaching 17% or more return on tangible common equity felt “conservative,” and pressed Gorman to elaborate on the outlook. 

“Whether it should be 17% plus, 18% plus, 19% plus — listen, if we’d said to you three years ago our aspiration was to have a 17%-plus ROTCE, you would have thought we’re off the planet,” Gorman said. “So I’m very comfortable with these numbers.”

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