Following first quarter results that topped expectations, it looked like the narrative around the company would reset from bearish in the end of 2018 to a bit more optimistic going forward.
Yet shares have lost roughly 8% of their market value since earnings day against a broad financial services sector (XLF - Get Report) that has advanced just 2%. On July 18, ahead of the opening bell, the New York City-based bank will share its second quarter results, with yet another opportunity to instill confidence in shareholders that appear to have lost it in the past few months.
Key Risk: Lumpy Institutional Securities
Based on first-quarter figures, half of Morgan Stanley's revenues come from institutional securities. This segment, which includes advisory, underwriting and trading, is notorious for performing erratically from quarter to quarter. Investment banking revenues are highly dependent on the deal flow and timing of execution, whereas sales and trading can be heavily impacted by market conditions.
In either case, the current environment seems less than ideal for Morgan Stanley's institutional business. The warning signs seemed evident as early as May, when JPMorgan's (JPM - Get Report) CEO Jamie Dimon projected that his company would see M&A and capital market revenues drop 10% in the second quarter, likely the result of clients postponing deals amid lingering trade policy concerns and a turbulent Brexit process. Peer Bank of America (BAC - Get Report) also weighed in by forecasting lower trading revenues, a likely reflection of the same macroeconomic worries coupled with what could be a longer-term decline in the institutional trading business.
Key Opportunity: Growing Wealth and Investment Management
Possibly helping to offset some of the headwinds, Morgan Stanley's growing wealth and investment management segments seem to be in much better footing for the second quarter. Not only are these businesses better aligned with more bullish, secular trends in high net worth clients' asset management, they also tend to perform more consistently and predictably across periods.
Last quarter, both segments combined saw revenues rise at a modest pace of 2%, with net interest income providing most of the upside. This time, however, higher asset level pricing driven by the market's strong first quarter performance could push asset management revenues up. Should the company continue to do a competent job at keeping operating expenses under control, it is likely that wealth and investment management will experience strong growth in segment profits.
Impacted By Uncertainties, Stock Looks Cheap
Ahead of earnings, Morgan Stanley seems to be faced with a mixed bag of positive and negative developments. With institutional securities still accounting for the bulk of revenues and segment profits, the company's challenge will be to soften the blow of a weak capital markets and trading environment, perhaps armed with an investment banking backlog that the management team has claimed to be solid.
The better news is that Morgan Stanley stock looks inexpensive, trading at a current-year earnings multiple of only 8.8x -- slightly more de-risked than its key peer Goldman Sachs' (GS - Get Report) valuation. On the other hand, the bank's ability to perform more robustly continues to be impacted in the near-term by negative forces that are largely outside the company's control.
But with wealth and investment management becoming more relevant businesses over time and institutional securities bound to eventually recover upon more favorable market conditions, this could be a good time to buy shares of a high quality company on the cheap.