Deconstructing Morgan Stanley’s bleak Q2 conference call; reasons to fear the Office of Reengineering

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Morgan Stanley's Q2 results were bad, as we alluded to yesterday, and it's set to shrink headcount by another 1,000, bringing total redundancies in 2012 to 4,000.

Aside from this headline figure, what can Morgan Stanley’s Q2 conference call, available on Seeking Alpha, tell us about the bank’s plans for headcount and compensation?

1. Fixed income will take a hit

FICC sales and trading revenues fell by 70%, to $770m, after a strong first quarter, so it’s not surprising that Morgan Stanley is looking at the structure of this division.

Ruth Porat, chief financial officer at the bank, said that certain fixed income certain were “nice to have, but they're not necessary”, that it would move “away from complex structured product businesses to high-velocity, flow-oriented products” and that the in areas where revenues were “most lumpy” the bank was “being the most aggressive and will be increasingly so”.

Specifically, structured credit and subprime securitisation are areas where cuts seem likely.

2. Europe may be targeted for cuts

Revenues in Morgan Stanley’s EMEA division declined by 36% year-on-year, which is not entirely unexpected considering the ongoing problems in the Eurozone. By comparison, revenues in Asia slipped by 20% and America by 23%.

“With respect to business trends in the near to medium term, we expect activity levels to remain highest in the Americas followed by Asia. We expect the challenges in Europe will continue to weigh on activity levels in the near term,” said Porat.

3. Unless you’re in the front office, it’s unlikely that you’ll work in London or New York

Morgan Stanley’s Office of Reengineering was created in winter last year and its focus is on ‘optimising’ the business; namely stripping out costs where it can. Inevitably, this means focusing on reducing compensation expenses as well as stripping out headcount.

However, it also involves shipping people out to lower cost locations. More people are likely to move out of New York to Morgan Stanley’s operational centre in Baltimore and it’s likely more back office staff will be relocated, or their jobs transferred, up from London to Glasgow or even Poland in the near future.

4. Bonuses are shrinking, but performers will still be paid

As we pointed out yesterday, compensation is sliding at Morgan Stanley – by 36%, which is a far higher cut than its US investment banking peers – and clawbacks could be on the cards. However, Porat indicated that they would still look to dig deep for those generating revenues: “The way we think about is we want to drive returns, we want to ensure we can the pay people who are driving returns and we need to make sure that we're doing all that we can to use those compensation dollars most efficiently,” she said.

This could simply be rhetoric to ensure that there’s not a perception that Morgan Stanley's falling behind its competitors on pay, but it also suggests that they’re primarily trying to cut costs in back office functions.

5. Wealth management will largely be spared, but it’s getting tougher to break in

As with its previous redundancy announcement, Morgan Stanley has shied away from making deep cuts in its wealth management divisions. While it talks about “quality, rather than quantity” of financial advisers, the main focus has been on “raising the bar” to entry.

The number of trainees it took on shrunk from the planned 2,000 to 1,250 this year, and the training programmes have been restructured to try and increase productivity. In other words, fewer people are having to work harder.

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