"Morgan Stanley (MS) shares have outperformed Goldman Sachs Group Inc (GS) by 8.8% since early September MS is up 14.2% and GS is up 5.4% and we expect this outperformance to continue. Specifically, we see several factors driving strong relative performance for MS, including: 1 a better positioned securities business in the current environment, 2 less downside from a harsh Volcker rule, 3 a business mix that tends to garner a higher multiple, and 4 consensus estimates that seem too low to us," say the UBS analysts.
What's working for Morgan Stanley
According to UBS, Morgan Stanley's realignment of business priorities in favor of wealth management and a stronger equities business should yield the following advantages:
- These businesses are comparatively less capital intensive
- They offer scope for improving the mix in favor of more profitable businesses
- Stable earnings and potential for high deposit funding
- Favored by regulators for the last-mentioned reason above.
Goldman Sachs relying on expense control
On the other hand Goldman Sachs Group Inc (GS) has reported profitability that relied more on expense reduction compared to revenue generation. "We believe it is unlikely that Goldman Sachs will be able to drive meaningfully higher returns without an improvement in the revenue outlook. Further, as long as double-digit returns are delivered through expense control, we expect the multiple on Goldman Sachs shares should remain constrained," say the analysts.
Market under-estimating Morgan Stanley
UBS AG (UBS)'s earnings projections for Morgan Stanley (MS), which recently incorporated interest income arising from the wealth management business, indicate that its earnings growth is likely to be far superior to that of Goldman Sachs Group Inc (GS).
According to UBS, the consensus earnings estimates for Morgan Stanley are unduly lower than warranted: "Our 2014 and 2015 estimates are meaningfully above consensus, and we see considerable upside to our numbers due to the potential for strong loan growth and upside from rising rates."
In addition, the market is not factoring the proper size of the buyback that regulators would allow Morgan Stanley (MS) - in UBS AG UBS's view this could be as high as $3B.
Morgan Stanley's IB business more sheltered from regulators
UBS analysts are of the opinion that the shrinkage of FICC business at Morgan Stanley (MS), which in any case was a drag on IB earnings, would also relieve regulatory pressure/scrutiny. "We have been encouraged by the steady shrinking of their FICC RWAs. Therefore, even if MS is not able to generate returns above its cost of capital in FICC, the declining prominence of this business should improve the firm's return profile in the IB."
On the other hand, the company's huge scale in Equities would shield it from increasing competition in this area, as well as allow it to generate excellent returns on the regulatory capital invested in this business.
-By Saul Griffith
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