Investment banking was once a popular industry to be in before 2008. Investment banking was like having a license to print money. Since the fall of 2008 things have changed dramatically in the financial marketplace. There are not as many major investment banks left as many of them went belly up. Bear Stearns, Lehman Brothers, and Merrill Lynch were unable to survive as stand alone entities. Only two banks were left standing.
Investment Banking Industry
Goldman Sachs (GS) gets all of the media attention as one of the lone survivors in the investment banking industry. Morgan Stanley (MS) is still around however and operates in relative anonymity considering that they are the world’s largest brokerage firm. The company has come a long way over the past 3 years when the stock was trading for $9 a share.
Morgan Stanley was in trouble like all of the other banks during the financial crisis. While Warren Buffett took a stake in Goldman, Morgan Stanley received a $9 billion dollar cash infusion from Mitsubishi UFJ Financial Group to help the company avoid bankruptcy. The cash infusion saved Morgan Stanley but it also gave a 22% ownership stake to Mitsubishi. The preferred share dividends made a huge dent in Morgan Stanley’s earnings over the past three years.
Morgan Stanley’s Stock
Morgan Stanley was able to recently reduce its $800 million dollar annual dividend payment to Mitsubishi by converting many of the preferred shares into common stock. The renegotiation with Mitsubishi was a smart strategic decision. The short term effect is that the retirement of some of the preferred shares will reduce earnings for the quarter. The long term effect is more cash for the company and improved capital ratios.
Shares of Morgan Stanley are attractively priced at $22 a share. The stock is only 50 cents above its 52 week low. The company is trading at just 0.7 times book value and 11 times the company’s present earnings. The forward P/E is just 7.5 time earnings. Shares trade at a remarkably low 1.7 times cash flow. The company is extremely well capitalized with a Tier 1 ratio of 14.5 and has a major cash hoard to deploy when the opportunity presents itself.
Return on equity is incredibly important for investment banks and Morgan Stanley has seen its ROE plunge post 2008 as Goldman has. Morgan Stanley’s current ROE has dropped below 7%. The firm may not see he robust return on equity of its heavily levered days but the bank can definitely produce returns of 10%. The company has a very modest dividend yield of 0.90%.
Goldman may be best of breed in the industry but Morgan Stanley has a much more stable business model. Morgan Stanley will have a much easier time beating market expectations since the company is less affected by governmental regulations.
If shares of Morgan Stanley drop to the upper teens I would view that as a great buying opportunity.