Inside Morgan Stanley’s Success—and What’s Ahead
The firm plans to hit $10 trillion in client assets over the next decade. If CEO James Gorman can get it there, then the stock will keep winning.
By Carleton English
Morgan Stanley kept its head down and chin up amid the recent banking turmoil.
If the company emerges without a scratch, it will be by design.
CEO James Gorman has pivoted sharply from the firm’s roots in investment banking and trading, turning Morgan Stanley into an asset-management giant.
With more than $20 billion in recent acquisitions, primarily for discount brokerage E*Trade and fund manager Eaton Vance, the company looks far better equipped to ride through another bout of banking stress.
PHOTOGRAPH BY JEREMY LIEBMANInvestors like the story: Morgan Stanley’s stock is flat for the year, beating rivals like Goldman Sachs (GS), Bank of America (BAC), and JPMorgan Chase (JPM).
Morgan Stanley shares returned a cumulative 170%, including dividends, over the past three years, more than double the S&P 500 index SPX 0.36%’s gains, and leaving peers behind.
At 2.1 tangible book value and 12 times 2023 estimated earnings, the stock trades at a premium to most peers.
By market cap, at $141 billion, it’s now bigger than Goldman, Citigroup (C), and Charles Schwab (SCHW).
Gorman runs an even-keeled ship compared with the Morgan Stanley of old.
Around 44% of noninterest revenue comes from asset management, up from 30% in 2013 and 34% in 2020.
Deposits have surged to $351 billion, fueling gains in interest income as interest rates have increased.
Largely through acquisitions, the firm added nearly $1 trillion in net new assets since the pandemic, generating far more fee income.
While net income fell 27% last year as the markets tanked and interest rates soared, it wasn’t as bad as the 48% drop at Gorman’s big downtown rival, Goldman Sachs GS 0.27%.
Like other big banks, Morgan Stanley is feeling the pressure of higher rates and a tougher market for banking and debt and stock issuance.
Analysts expect a 4.3% year-over-year drop in revenue when the firm reports quarterly results on April 19.
The investment banking and institutional securities divisions are expected to post double-digit declines, offset partially by gains in asset management.
The sustainability of the fee machine that Gorman built is the key question now as he aims to join a rarefied club: reaching $10 trillion in client assets over the next decade, nearly double the current levels.
He also thinks it feasible to nearly double revenue, from an estimated $56.6 billion this year.
Morgan Stanley aims to reach $10 trillion in client assets, nearly doubling current levels, over the next decade. GABRIEL PEVIDE/GETTY IMAGES FOR MORGAN STANLEY“If I said to you, six years from now that half of the company will be $50 billion, it starts getting a little interesting,” he said in a recent interview with Barron’s from his 40th floor office in midtown Manhattan.
To hit those targets, the markets will have to revive.
High interest rates, pressuring bond prices and stocks, have also put a chill on merger activity, underwriting, and asset-management fees.
And there are internal overhangs; a big unknown is who might succeed Gorman, who is 64.
After 13 years, he is the second-longest-serving leader since co-founder Harold Stanley ran the firm from 1935 to 1951.
Still, the foundations give Morgan Stanley a credible shot at reaching its targets, and the market downturn could open up more advisory firms to acquisitions.
At about 10.5 times estimated 2024 earnings, the stock isn’t excessively priced and yields a healthy 3.7%.
Several analysts view it as a solid bet on Gorman’s ability to keep the fees growing, while banking deals creep back with a stabilizing rate environment.
“It’s in a very good place strategically.
On a long-term view, it’s very well placed and not in the crosshairs of any macro issues,” says Christian Bolu, analyst at Autonomous Research.
Building a Fee Machine
In many ways, Morgan Stanley today reflects Gorman’s vision to re-engineer the bank into an asset-management powerhouse.
An Australian with a background as a lawyer and as a McKinsey consultant, he joined Morgan Stanley from Merrill Lynch in 2006 and quickly rose up the ranks, becoming co-president in 2007 and CEO in 2010.
Gorman was instrumental in securing the deal for Smith Barney in 2009, taking advantage of the financial crisis to add thousands of advisors to the bank and expand its client assets to $1.7 trillion.
Bolt-on acquisitions followed, including a 2019 deal to buy the stock-plan company Solium Capital, followed by E*Trade, Eaton Vance, and a 2022 deal for Cook Street Consulting, the last adding $72 billion in assets.
At the end of 2022, assets under supervision totaled $5.5 trillion.
The theme: building scale and fee-based revenue.
Gorman scrapped some volatile businesses, such as proprietary hedge funds and physical commodities, and a small European advisory business.
His goal, he says, was to play in the “major leagues” of U.S. asset management, creating a soup-to-nuts platform—similar to a car manufacturer that owns dealerships or a movie studio that owns cinemas.
“I had a fundamental belief about the power of manufacturing and distribution scale,” he tells Barron’s, adding that $1 of every $5 of revenue in global equities trading goes through Morgan Stanley’s prime brokerage.
“There is no sovereign-wealth fund that doesn’t want to talk to Morgan Stanley,” he says.
“There’s no pension fund that doesn’t want to talk to us.
We’re just big.”
The results have been a growing base of deposits and assets, and more-predictable revenue.
Investment banking and institutional securities remain core, but with asset management at nearly 50% of revenue, cyclical downturns don’t hurt as much.
Morgan Stanley’s 27% decline in net income last year is closer to the country’s largest bank, JPMorgan Chase JPM -0.11%, which was down down 22%, than to Goldman, which remains more reliant on trading and investment banking and saw net income fall nearly 50%.
Gorman is optimistic that deal making, which was sluggish in 2022, will soon recover as businesses feel more confident about the path of interest rates.
“Things will rebound when people know where rates settle,” he says.
“The CEOs I’m talking to now are developing M&A plans.
They’ve got their game ready, but I think they need a little more clarity on the macro.”
Even without a banking recovery, Morgan Stanley has ways to grow by cross-selling, upselling, and funneling assets into managed accounts.
The client base includes 5.2 million E*Trade accounts and a thriving employee stock-plan business acquired with the discount brokerage and Solium; Morgan Stanley says it retains 40% of stock plans for companies in the S&P 500, creating a large funnel of clients for wealth management.
On the trading and banking side, the company is trying to be more of an “integrated investment bank,” cross-selling equity, fixed-income, and banking services.
“We’ve mobilized people in those three divisions into each others’ ponds,” Co-President Ted Pick recently told analysts.
With acquisitions such as E*Trade and Eaton Vance, Gorman built a larger base of fees and interest income, helping to prop up revenue amid downturns. PHOTOGRAPH BY JEREMY LIEBMAN FOR BARRON’SThe contrast with Goldman, Gorman’s biggest Wall Street rival, is stark.
While Goldman remains an investment banking powerhouse and made a few acquisitions to bulk up its advisory services, it plowed even bigger resources into building a consumer business through its Marcus brand and 2021 acquisition of financial-technology platform GreenSky.
So far, it is a show-me story, racking up $3 billion in losses, talk of divestitures, and frustration among investors as Goldman stock underperformed Morgan Stanley in recent years.
Goldman didn’t respond to requests for comment.
Gorman had long coveted a digital platform for consumer services.
But rather than try to build it internally, he figured it would be simpler and more effective to buy it.
After Schwab announced a deal for TD Ameritrade in late 2019, putting E*Trade in play, he wasted no time.
“The day they merged, I walked into our CFO’s office and said, ‘You know what we’re going to do?’ We’re going to buy E*Trade, because the two natural buyers have taken themselves out of the market.
This was a gift that fell through the roof,” Gorman says.
The deal, controversial at the time, looks prescient today.
E*Trade’s big prize wasn’t revenue from retail trading accounts, as equity commissions went to zero industrywide.
Rather, it was access to the client base and $56 billion of digital-banking deposits—nearly free money for Morgan Stanley to generate interest income.
That wasn’t worth much when rates were low, but it’s paying off as rates have edged up; the firm reported $9.3 billion of net interest income last year, nearly double its 2019 total of $4.7 billion.
Another prize was E*Trade’s stock-administration business—managing stock plans worth $300 billion across 1.9 million accounts.
E*Trade handled 35% of stock plans in the S&P 500.
Morgan Stanley says it’s now up to 40%, across more than 12 million workplace accounts, and has added $350 billion of vested asset inflows over the past three years, pushing $150 billion into advisory accounts, according to a recent investor presentation.
Gorman sees plenty of ways to capitalize.
“Pretend it’s an Uber” before the company went public, he says.
“We could go to the executive office and say, ‘Gee, we’re managing your stock plan.
You’re going to go public.
We can help in that process.’ ”
He adds that it “opened up a level of discussions in the C-suite” that wasn’t there before.
Ultimately, Gorman has outlined plans to reach more than $14 billion in pretax profits on $10 trillion in assets, double the profits that the asset-management side produced last year.
The goal will require adding about$1 trillion in net new assets every three years from net inflows, market growth, and acquisitions.
“If the trading markets and banking explode on the upside, then I’ll be perfectly happy if we [are] at 50/50,” he says, referring to the revenue mix.
Asset management is faster growing than trading and banking, he adds, and it’s less reliant on macro forces like markets and interest rates.
The new Morgan Stanley isn’t unique.
Bank of America BAC 0.72% has a similar mix, partly thanks to its Merrill Edge brokerage.
Goldman is still plugging away with Marcus, along with credit cards co-branded with Apple (AAPL).
But investors see Morgan Stanley as the firm with more consistent returns and higher profitability.
Its returns on equity are higher than Goldman and BofA.
The company also earns a higher multiple of book value, a measure of how much the core business is estimated to be worth.
To hit $10 trillion, a few things will have to go right.
Equity markets will need to resume their 7% average annual return.
Clients and advisors will have to be retained.
And if the company can’t get there organically, it will have to add about $300 billion in assets a year and Gorman may have to go shopping again, buying his way to his goals.
“There may be assets under custody where they get revenue, and some market growth, but other than that, it will primarily be acquisitions,” says a former managing director of the firm.
“They’ve shown an appetite for it.
I’d expect them to buy more institutional consulting firms.”
The collapse of a few big banks could create some opportunities.
The blowup at Silicon Valley Bank and the precarious position of First Republic Bank (FRC) could make it easier for Morgan Stanley to attract clients and advisors decamping from those institutions, though the firm hasn’t bid on the troubled banks.
Gorman adds that while he isn’t seeing signs of contagion from the regional banks, he does see fewer of them staying independent.
“I think over the next couple of years, there will be a lot of consolidation of regional banks,” he says.
Some analysts see Morgan Stanley benefiting from the shakeout.
A few advisors from First Republic have joined the firm since March, handling more than $12 billion in assets.
“The current environment has given them a tailwind because of the sentiment that bigger is safer,” says Louis Diamond, president of Diamond Consultants, a financial advisor recruiting firm.
“There is a subset of advisors who want to be at a big firm.”
Getting to $10 trillion also means that Morgan Stanley will have to keep advisors productive after luring them to join.
“It’s not the end customers that are the real clients; it’s the financial advisor,” explains Chris Kotowski, analyst at Oppenheimer.
Recruiting advisors typically requires a payment of three times their trailing annual revenue.
The payouts may be structured over several years, but in a competitive environment, Morgan Stanley may have to throw in sweeteners such as staffing promises and marketing budgets, analysts say.
The firm will also have to invest in its “technology stack” to help advisors expand and serve more clients, according to Diamond.
For now, the downturn in capital markets is weighing on its stock and operating results.
Adjusted earnings per share declined 24% last year, profit margins slid, and book value declined 1%, to $54.55 a share.
Morgan Stanley also reported lower returns on equity as it maintained a relatively high expense base, while fees from investment banking and advisory revenue plummeted with the falling market.
Gorman trimmed jobs and took a 10% pay cut last year, reflecting the downturn, though he still pulled in $31.5 million.
Another overhang is a familiar one for a Wall Street firm: avoiding blowups.
Despite far more risk controls since the 2008-09 financial crisis, the firm hasn’t been immune to risk failures.
In early 2021, the bank lost nearly $1 billion due to the collapse of family office Archegos Capital.
In a call with analysts, Gorman said the bank acted swiftly to exit its Archegos-related positions to “cauterize” contagion.
While he characterized Archegos as an “unusual event,” Gorman said the bank will take a closer look at family office relationships.
Key to Morgan Stanley’s future will be what happens when Gorman retires.
On an earnings call in early 2022, he put his timing within five years, while stressing that the decision ultimately lies with Morgan Stanley’s board.
Still, Gorman underlined that he wants to see E*Trade and other businesses fully integrated before he hands over the reins.
“I think Gorman loves what he’s doing.
I don’t see any reason why he’d retire soon.
This is a man who has to be fully involved in something challenging,” Dick Bove, a veteran bank analyst at Odeon Capital, tells Barron’s, recalling being in a meeting with Gorman years ago and seeing how animated he became.
The longer he sticks around, however, the more successors might not.
One candidate, Chief Operating Officer Jonathan Pruzan, retired in January.
Next in line for the CEO job internally could be Co-Presidents Ted Pick and Andy Saperstein, or Dan Simkowitz, head of investment management.
Gorman tells Barron’s he wants to make sure that Morgan Stanley has the right people for whatever the next decade throws at it.
“I think we’ve created a machine that is very hard to stop growing,” he says.
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