High stakes for Mack as Morgan Stanley posts losses

NEW YORK (Reuters) - Morgan Stanley's (MS.N) Chief Executive John Mack, who rose to power after an internal coup toppled his predecessor, is facing a chorus of doubt that he himself may not be able to lead the investment bank down a street that's lined with gold.

A second-quarter loss for the venerable institution -- the third in as many quarters -- helped turn up the volume.

In announcing Morgan Stanley's second-quarter loss of $1.26 billion, 64-year-old Mack said his firm would have been "solidly profitable" in the second quarter if not for a charge related to paying back a $10 billion government bailout and an accounting loss reflecting improvements in its debt prices.

No matter how he explains it, the loss was stinging for investors, especially after rival Goldman Sachs Group Inc (GS.N) rang up a 33 percent increase in quarterly profit, largely by taking advantage of a trading windfall that Morgan Stanley missed.

"John Mack has a more limited life as a CEO than he did 72 hours ago," said Lawrence White, a professor at New York University's Stern School of Business. "What has he done for the company lately?"

Investors are asking the same question as Morgan Stanley tries to devise a strategy for returning to profitability or explain why it retreated from risk while the likes of Goldman and JPMorgan Chase & Co (JPM.N) seized trading opportunities.

"If the strategy they are trying to implement doesn't bear fruit over the next 12 months, there are going to be questions raised" about Mack's job performance, said Marshall Front, chairman at Chicago-based Front Barnett Associates, which does not own Morgan Stanley stock.

If Mack cannot turn a profit this quarter, one former employee doubts it would cost him his job because the firm has yet to anoint an heir. But, the source said, "If he has another quarter like this, his legacy will continue to deteriorate. He will leave not leave as the superstar he wanted to be."

There has been speculation that the firm's co-presidents James Gorman and Walid Chammah could be possible successors to Mack, whose five-year agreed upon stint as CEO expires in 2010.

SAILING CLOSE TO SHORE

On Mack's watch, Morgan Stanley has made a string of strategic decisions that have proven costly.

Before the financial industry collapsed, Morgan Stanley ratcheted up risk-taking on its trading desks, but missteps led to billions of dollars in losses.

That prompted a Morgan Stanley executive to tell shareholders in 2008 that the firm would "sail close to shore."

Since then, Morgan Stanley, which recently created the world's largest brokerage with its Morgan Stanley Smith Barney joint venture, has moved to shrink its balance sheet, reduce leverage and dump riskier business, such as proprietary trading.

After Lehman Brothers collapsed, investors bet that Morgan Stanley, founded in 1935, would follow. But Morgan became a bank holding company and made plans to create a more conservative operation.

Many people inside and outside the firm credit Mack with saving Morgan Stanley more than once.

"People remember what he has done for the firm, but right now it is a time for John to get out there and tell people where the place is going and why some of the decisions are being made," said Brad Hintz, an analyst with Sanford C. Bernstein & Co in New York and a former Morgan Stanley treasurer.

"We are not seeing him at this point."

HELLO, JOHN!

"Right now, there's a communication vacuum at the firm: Tell us what you are doing," said Hintz. "John Mack is not out in front enough. He needs to get out there and say what the bank is doing."

"What is happening on the trading side and why you are doing it remains a mystery to investors," Hintz said.

For example, fixed-income results of $973 million, which had a gain of 44 percent compared to a year ago, were dragged down by a $1.3 billion loss related to improving spreads on its own credit.

Those results, reported on Wednesday, were dwarfed by the $6.8 billion reported by Goldman Sachs, almost triple what it was a year earlier.

Two days before it announced earnings, Morgan Stanley preempted criticism about its fixed-income performance by trumpeting the hiring of Jack DiMaio to be its global head of interest rate, credit and currency trading.

Analysts expressed doubt about whether DiMaio, who once headed fixed income for North America at Credit Suisse Group AG (CSGN.VX) (CS.N), represented any kind of panacea for Morgan Stanley's trading operations.

That the bank is now being faulted by critics for excessive timidity is ironic given that Mack, nicknamed "Mack the Knife," came back to Morgan Stanley in 2005 to replace Philip Purcell, a former McKinsey consultant accused of being too risk averse.

Purcell, who prevailed over Mack in a 2001 power struggle, favored retail brokerage and trading businesses that focused on clients over proprietary trading and other capital intensive business - the things Mack now emphasizes.

Morgan Stanley said on Wednesday that it is in a year of transition. What that means for the company and John Mack is not clear.

For now, Hintz thinks Mack's best job security might be his "personal equity" in the firm. "He has so much personal equity and people remember what John has done for the firm." (Reporting by Steve Eder; Additional reporting by Joseph A. Giannone; Editing by Toni Reinhold)