Analysis: Morgan Stanley bets on smaller bond unit, defying skeptics

Sat Jan 18, 2014 1:17am EST
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By Lauren Tara LaCapra

NEW YORK (Reuters) - In early 2011, Morgan Stanley Chief Executive James Gorman thought he had finally figured out how to rebuild the bank's depleted bond trading business without taking too much risk.

He hired traders from rivals in areas where the bank was relatively weak, such as trading government debt, and exhorted his sales staff to gain new clients and win more trades from existing customers.

On Friday, after three years of spotty results, Gorman flipped the script, announcing a new strategy for fixing the operation: shrinking and taking less risk. It is at least the fourth time the bank has tried to retool the business since the financial crisis.

Rivals and some analysts are skeptical that Gorman has it right this time.

"Whether banks can really compete and be profitable on a smaller scale - that's the million dollar question," said Lisa Kwasnowski, an analyst at the bond ratings firm DBRS who is supportive of Gorman's plan.

Bond trading - including fixed income, currencies, and commodities - has historically been a profit driver for banks such as Morgan Stanley and Goldman Sachs Group Inc, but new capital and trading rules from regulators in the aftermath of the financial crisis have squeezed profits.

Morgan Stanley saw its bond trading revenue fall 14 percent, excluding an accounting adjustment, in the fourth quarter. Revenue from the business also fell for Goldman and Citigroup Inc. Nearly every major global bank is examining what to do with their fixed income businesses in light of new regulations.

Bond trading has been critical for banks for more than a decade, both as a source of profits and as a way to win lucrative underwriting and merger advisory assignments.   Continued...

The headquarters of Morgan Stanley is seen in New York January 9, 2013. REUTERS/Shannon Stapleton