Thursday, 04 November 2010 06:37

BoomBustBlog Analysis of Morgan Stanley's Q3 2010 Operating Results

Summary: Morgan Stanley is also extending its abysmal track record in CRE with the 97% in Revel. The bank took an effective loss for the common shareholders, even when backing out the DVA effect (which is a non-cash charge) as long as you normalize one time items. There is plenty more pain in RE to come, and Morgan's track record is horrendous at the same time expenses are rising with talent fleeing.

The Morgan Stanley Q3 2010 forensic report and updated valuation is now available for download to all subscribers - File Icon Morgan Stanley Q3 2010 Analysis and Updated Valuation. I will be exporting strategic portions of the model for pro and institutional subscribers over the next few days which will allow a forensic view of the balance sheet holdings. Below is an excerpt of the report, as well as some links to the mainstream media's reporting of Morgan Stanley's quarterly results to allow subscribers to discern the difference in both our approaches and results.

Mainstream Media's Reporting of Morgan Stanley's Q3

The BoomBustBlog Way

I have taken the liberty to excerpt a few paragraphs for those that don't subscribe in order for you to ascertain the difference between reported news and analysis. Feel free to click on any page to enlarge to print quality size.

Morgan Stanley is also extending its abysmal track record in CRE with the $1.2bn loss in Revel

In Q3 2010 Morgan Stanley reported a loss of $229m relating to write-down of Revel Entertainment Group. With this the carrying value of investment in Revel Entertainment Group is almost worthless at $40m. To give a background, Morgan Stanley had invested almost $1.2bn in Revel Entertainment Group LLC's Revel casino in Atlantic City way back in 2007 (the absolute top of the CRE bubble). In 1H 2010, the company had written-down approximately $951m on its investment in Revel bringing its investment down to $240m the balance of which was written down in Q3. The casino project has been stalled since 2009 due to escalating costs, financing issues and the misfortunate death of several top executives from Revel Entertainment, Tishman Construction, and APG International in July 2008 as the charter jet they were flying in crashed. Revel is one of the classic examples of firms investing in real estate pet projects at the height of bubble.

For those who are not familiar with the MS CRE investing results, I strongly recommend you  review the following article, in its entirety... Wall Street is Back to Paying Big Bonuses. Are You Sharing in this New Found Prosperity?

Interested parties may click here to subscribe.

Last modified on Thursday, 04 November 2010 07:04


  • Comment Link Reggie Middleton Friday, 05 November 2010 12:40 posted by Reggie Middleton

    It does seem like the banks, doesn't it?

  • Comment Link Pieter Silvius Friday, 05 November 2010 11:13 posted by Pieter Silvius

    Dear Mr. Middleton,

    Yesterday we heard (Netherlands) that Bernanke is starting to dilute the dollar supply in order to buy toxic assets. Obama is obviously not able to defend his policy that softens the sharp edged differences between wealthy and poor Americans. Bernanke, however, is allowed to spend eventually 4 trillion dollars to save the banks that have frauded on a colossal scale by overvaluating real estate and mortgagees. Really, this scheme would have been too big for Al Capone! Does Congress agree to all this? It seems sheer corruption to me. Who is running the US? The banks?

  • Comment Link Reggie Middleton Friday, 05 November 2010 04:07 posted by Reggie Middleton

    The fact that MS ROE for 2010 is marginally higher than GS and JPM comes from the fact that they had strong trading revenues in Q1 and Q2 which has distorted ROE in favour of MS for full year 2010. MS had principal transaction revenues of $7.4bn and they generated higher return in Q1 and Q2 (23% and 15%). However, if we extrapolate the chart to 2011-2012, their normalized ROE is expected at c8%. Also, to note that these financial ratios are accounting rations. I believe a real return on equity should be on market cap and not book value which is the return for the investors. If a company has book value of $100 and market cap of $150 and earns $10, the implied return for investors is not 10% but 6.6%. Book value if taken should be economic book value. But most of these banks don't mark up their long term investments to market value as accounting policy permits banks to keep these long term investments at book value even if market value is 50% off. That said, the point of analysis was to demonstrate how banks are faring with respective to their capital (accounting) and show a trend analysis with peers.
    The tightening regulatory standards, rising bars on capital requirements, curb on prop trading, difficult trading conditions, risk aversion, deleveraging would challenge investment banks ability to earn excess return on cost of capital. Most sell side valuations do not reflect the such factors. We have done a detailed analysis of MS valuation in the subscription report.

    I will dedicate a new blog post to address this in detail.

  • Comment Link Taylor Thursday, 04 November 2010 15:46 posted by Taylor

    Hi Reggie,

    Maybe I am reading your chart wrong but in your last page you say that MS has the lowest ROE of the three and it is "clearly trending down". If MS is the green line, it looks like it made a U-shaped dip and is now trending up, while GS is clearly trending down and JPM is kind of flat-lining if not trending mildly up. Also, according to the chart which ends at 2010e, MS has the highest ROE.

    Did I misread the chart or did you mislabel it? What is going on here?

    Great work either way, I appreciated the compare/contrast to the MSM coverage. Just reading the CEO's comments made me think "This is not confidence inspiring, comes across as fluffy" as an initial reaction. Never a good sign. I want to hear a Jamie Dimon-esque "I've got Obama by the balls!", if anything. Kidding :)

  • Comment Link Ken Thursday, 04 November 2010 15:31 posted by Ken

    "if there is a failure they will have to raise interest rates" -

    what will happen is that there won't be any buyers of our bonds simply because they will not want to get paid back in U$D. We will monetise our debt and the dollar tanks and tanks and we have hyperinflation. And then it all blows up and we go to war.

  • Comment Link Ludovico Dellacqua Thursday, 04 November 2010 15:17 posted by Ludovico Dellacqua

    If there is a failure in the bond auction and the US has to raise interest rates, the USD will APPRECIATE simply because they will have to raise interest rates on future issues. Correspondingly, bond yields will increase and bond prices will decrease.

  • Comment Link Ken Thursday, 04 November 2010 14:28 posted by Ken

    I am talking about currency depreciation that is going on now by the FED. They are doing it orderly but soon they could have a failed bond auction and it could wind up being quick and disorderly is the point I am trying to make. If the floor on the dollar falls out, equities and gold priced in U$D will rocket simply because they are U$D. Iceland was hit with a vengeance because they borrowed in the EURO and when their currency was halved they owed twice as much as they did before the devaluation.We don't borrow in foreign currency, we sell treasury bonds to feed our machine and than lie about not monetising our debt. The U$D carry trade won't unwind because unlike Greece we have a printing press. They have to do austerity in Greece and in Europe in general. The USA is already effectively defaulting on the treasury debt by way of dollar depreciation. The QE is just a guise for this. Our weak dollar is going to bankrupt the PIIGS. Tensions are rapidly heating up.....

  • Comment Link Ludovico Dellacqua Thursday, 04 November 2010 12:13 posted by Ludovico Dellacqua

    "If we were to have an “Iclandic” episode over night and you are short the financials you could lose your a$$ being long the U$D because a 40% depreciation in the U$D would be reflected in the appreciation of the shares."

    Your premise is wrong - don't look at Iceland since the USD still has reserve currency status. During time of financial duress investors receive margin calls and unwind carry trades with JPY for example and the dollar appreciates. So Reggie's shorts that are likely denominated in dollars will likely appreciate on both sides - stock appreciation and underlying currency appreciation.

    The chicken is coming home to roost... counterparty risk will make the difference.

  • Comment Link Reggie Middleton Thursday, 04 November 2010 08:28 posted by Reggie Middleton

    BAC is a sinkhole, but correlations are too high during a QE boom or bust. If things get hot in either direction, chances are both banks will move the same, at least initially.
    If banks go into rally mode, the longs detailed on this blog should set on fire. The tech long calls are up over 1100%, so that should cover short volatility, plus some.

  • Comment Link Ken Thursday, 04 November 2010 08:23 posted by Ken

    What do you think about a pair trade to protect you in the event that all of the banks go in rally mode? Chris Whalen gives USB an "A" grade. He gives BAC an "F". What do you think of a short in BAC and a long in a healthy bank? That way if the shares of both banks went up you would be long one and short the other so you wouldn't lose any money......

  • Comment Link Reggie Middleton Thursday, 04 November 2010 07:54 posted by Reggie Middleton

    BTW, I will be looking at the currency angle in few days through the blog and rich media content, including models for subscribers.

  • Comment Link Reggie Middleton Thursday, 04 November 2010 07:53 posted by Reggie Middleton

    I'm not a strong believer in the "going to be reflected in stock prices" portion. Yes, the government is pumping QE and it worked like a charm last year, but the fundamentals are catching, or have caught up to reality.

    The banks are being choked by real estate and mortgage losses, and are not accurately reporting it. Look at Freddie Mac, who reported another big loss AND is seeking MORE government assistance this quarter - 11 out or 12 quarters with BIG losses. These were the better, more liquid loans pumped by .gov agency MBS QE! The banks, investors and insurers are stuck with the private label stuff and are not marking them to market even as the market gets worse in both economic activity and pricing.

    Look at Japan, QE just doesn't work long term. The Japanese powerhouse banks no longer exist on a global basis, it is not a coincidence.

  • Comment Link Ken Thursday, 04 November 2010 07:43 posted by Ken

    Reggie, I hope you're not shorting in U$D anymore. To do so IMHO is suicidal. There were alot of pundits calling for a rally in the dollar after the FED announcement and it just ain't happening. That would be like expecting Lindsay Lohan or Charlie Sheen to have a successful rehab. The dollar is more likely to have a cardiac arrest. How can you have a rally when you're creating enough extra Benjamin's that you're able to give every soul on the planet one of them. If we were to have an "Iclandic" episode over night and you are short the financials you could lose your a$$ being long the U$D because a 40% depreciation in the U$D would be reflected in the appreciation of the shares. I would try shorting with the AUD. Tell me why the dollar is going to rally? Both Rogers and Faber called for a sell off in the metals and a rally in the dollar until the end of the year and then a continued rally in the metals and a big leg down in the U$D next year. It does not appear to be going that way though. Why would it? If the USD breaks through 70 all hell is going to break loose.


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