Credit markets see Morgan Stanley as less risky than Goldman

NEW YORK Mon Oct 28, 2013 6:08pm EDT

NEW YORK Oct 28 (Reuters) - Morgan Stanley is now seen in derivatives markets as less likely to default on its debt than Goldman Sachs, a reversal of long-term price trends that signals investors' confidence in the bank's efforts to make itself safer.

The switch started on Oct. 18 when Morgan Stanley beat earnings expectations, two days after Goldman Sachs posted disappointing results. While Morgan Stanley showed signs of progress in wealth management - where it has made a big bet for future growth and stability - Goldman reported unexpectedly weak revenue in trading, a volatile business from which it gets the bulk of its income.

For the past 10 days, derivatives that protect against a Goldman Sachs Group Inc debt default for five years have been more expensive than those that pay out if Morgan Stanley defaults, according to data provider Markit.

This is the first time since 2002 that protection against a Goldman default has been more expensive for more than a few days, according to Markit.

"Morgan Stanley had pretty stable earnings with its wealth management business growing," said Nathan Flanders, an analyst with Fitch who covers securities firms. Yet "Goldman had a bit of a stumble," he said.

Morgan Stanley came uncomfortably close to failing during the financial crisis, and its chief executive at the time, John Mack, decided to try to ensure the bank never came close to the brink again.

In 2009, Morgan Stanley announced an agreement to buy Citigroup's wealth management business over time, and add it to its wealth management division. The investment bank hoped that increasing its reliance on wealth management, which generates relatively stable earnings in good times and bad, would make the bank safer.

In recent quarters, that business has provided an increasingly important contribution to Morgan Stanley's overall earnings.

Goldman, meanwhile, is still heavily reliant on trading. The bank fumbled last quarter in bond trading - historically one of its most lucrative businesses. Because it had few other areas of revenue growth, the bank cut costs to boost profits.

"Morgan Stanley has repositioned its business to emphasize lower risk, less capital consumptive activities which, from a credit investor's point of view, is a positive," said Edward Marrinan, macro credit strategist at RBS Securities.

As of Monday afternoon, it cost $116,000 to insure $10 million worth of Goldman debt - $3,000 more than for Morgan Stanley debt. That places Goldman at the top of the six biggest U.S. banks in terms of perceived risk, just above Morgan Stanley. Insuring bonds of Wells Fargo & Co - the only one without significant investment banking operations - is about half as expensive, at $57,000.

To be sure, the difference between Goldman and Morgan Stanley credit default swaps is small, and prices for both firms have fallen dramatically over the past two years. Whether the new ranking is permanent is yet to be seen, analysts cautioned.

"Time will tell if the new Morgan Stanley business model is truly more durable and more stable," said Flanders.

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