MORGAN STANLEY

Rocky Shun Ho

Zhengyu Lu

Nantaka Vongpiyabovorn

Jingxin Wu

Zhe Wu

Morgan Stanley

• Formed on September 16, 1935• Formed by J.P Morgan & Co. employees

• Henry S. Morgan

• Harold Stanley

• 1942: Join the New York Stock Exchange• US $779 billion as assets

Expansion

Achievement

Community

Global Office

Operates in 36 countries, over 600 offices and a workforce of over 60,000

Headquartered in New York City, US

Operates in 36 countries around the world, with over 600 offices and a workforce of over 60,000

Balance Sheet

Balance Sheet

Asset Level Evaluation

Decompose Assets to Different Levels

Income Statement

Income Statement

Cash Flow Statement

Cash Flow Statement

Three Core BusinessesInstitutional Securities

Capital raising

Financial advisory services•Mergers and acquisitions•Restructurings•Real estate•Project finance

Corporate lending

Sales, trading, financing and market-making activities•In equity and fixed income securities•Related products•Foreign exchange•commodities

Benchmark indices and Risk management analytics

Investment activities

Global Wealth Management Group

Brokerage and investment advisory services•Investment alternatives

Financial and wealth planning services

Annuity and other insurance products

Credit and other lending products

Cash management services

Retirement services

Trust and fiduciary services

Asset Management

Global asset management products and services•Equity•Fixed income•Alternative investments•Hedge funds•Funds of funds•Merchant banking•Real estate•Private equity •Infrastructure

Investment activities

5-Year Net Annual Revenue

Business Mix 2008 & 2009

Business Segment in 10-K

Industries

• Large-Market Investment Banking• Financial Services• Asset Management• Institutional Asset Management• Retail Asset Management• Investment Banking

2008: MS and Financial Crisis

2008: MS and Financial Crisis

2008: MS and Financial Crisis

2008: MS and Financial Crisis

2008: MS and Financial Crisis

Risk Management Philosophy

Based on the following principles• Comprehensiveness

• Independence

• Accountability

• Defined risk

• Tolerance

• Transparency

Risk Governance Structure

Board of DirectorsAudit Committee and the Risk Committee of the BoardSenior management oversight (including the Chief Executive

Officer, the Chief Risk Officer, the Chief Financial Officer, the Chief Legal Officer and the Chief Compliance Officer)

Internal Audit DepartmentIndependent risk management functions (including the Market

Risk Department, Credit Risk Management, the Corporate Treasury Department and the Operational Risk Department)

Company control groups (including the Human Resources Department, the Legal and Compliance Division, the Tax Department and the Financial Control Group)

Risk Committee

Oversees• Risk governance structure

• Risk management and risk assessment guidelines and policies regarding market, credit and liquidity and funding risk

• Risk tolerance

• Performance of the Chief Risk Officer

Types of Risks

Operational risk• Risk of losses arising from insufficient controls on

people, resources, and processes and external factors such as compliance risk

Legal/Regulatory risk• Risk of losses in fines, penalties, damages resulting

from noncompliance and legal actions

Credit risk• Risk of default from borrowers

Types of Risks

Liquidity and funding risk• Risk of difficulty in accessing capital markets, inability

to liquidate assets in a timely manner, and threats to going concern in satisfying financial obligations

Market risk• Risk of losses arising from changes in market prices,

rates, volatility, and correlations

Types of Risks

Competitive environment risk• Risks from competition

International risk• Risks of losses from global operation

Acquisition risk• Risk of losses from acquisitions, minority stakes,

forming joint ventures, and strategic alliances

Operating Risk

Sources of risk• Increasingly complex and large volume of transactions

processed in various markets and currencies

• Internal risks from employees and control systems, and external risks from financial intermediaries and other third parties

• Terrorist activities, diseases, and natural disasters contingency planning

Operating Risk Management

Operational risk Oversight Committee• Chaired by CRO, provides oversight of operational

riskOperational risk manager

• Monitors, measures, analyzes and reports on operational risk

• Independent of business segmentsBusiness Manager

• Maintain processes and controls designed to manage operational risk

Operating Risk Management

Business Continuity Management• Contingency planning to ensure continuity of

operations in case of disaster

External vendors• Risk managed through service level, contractual

agreements, service and quality reviews

Legal Risk

Extensive supervision from the Fed and regulatory agencies• Possibly stricter capital requirements and leverage

limits coming as soon 2010

Risk related to commodities activities• Engages in production, storage, and transportation of

several commodities including metals, agricultural and energy products

• Contamination may create liability even if MS is not at fault

Legal Risk

Fiscal and monetary policy• Various policies from central banks have effect on

cost of funds for lending, capital raising and investment activities

Conflict of interests• Can result in enforcement by governing agencies• Can result in public scrutiny or loss of business

Estimation errors• For legal proceedings which involve substantial

stake and are in early stages, costs are hard to estimate

Legal Risk Management

Legal and Compliance Division• “Develops various procedures addressing issues such

as regulatory capital requirements, sales and trading practices, new products, potential conflicts of interest, structured transactions, use and safekeeping of customer funds and securities, credit granting, money laundering, privacy and recordkeeping”

Credit Risk Institutional Securities Activities

Corporate lending• Relationship-driven – expand business relationships

• Event driven – lending commitments for events such as acquisition and mergers by clients

Securitized products• Structuring, underwriting, and trading collateralized

securities

• Risk borrower not performing according to agreement and devaluation of collateral

Credit Risk Institutional Securities Activities

Derivate contracts• Dealer in OTC derivatives

• “Generally represent future commitments to swap interest payment streams, exchange currencies, or purchase or sell commodities and other financial instruments on specific terms at specified future dates”

Credit Risk Global Wealth Management Group Activities

Commercial Lending• Working capital lines of credit, revolving lines of credit,

standby letters of credit, term loans and commercial real estate mortgages

• Involves the use of independent credit agencies

Margin Lending• Reviews amount of the loan, the intended purpose, the

degree of leverage being employed in the account

Credit Risk Global Wealth Management Group Activities

Consumer Lending• Mortgages, HELOC

• Evaluation of capacity and willingness to pay• FICO scores, debt ratios, borrower’s reserves

Credit Risk Management

Credit Risk Management is responsible for• Evaluating, monitoring and controlling credit risk for

each business segment

• Ensuring transparency of material credit risks, compliance with established limits, approving material extensions of credit, and communicating with senior management regarding risk concerns

Analyzing Credit Risk

Transactions and creditworthiness of borrowers reviewed regularly

At three levels: transaction, counterparty and portfolio

Produces credit ratings similar to external services• BB+ below considered non-investment

grade

Analyzing Credit Risk

Risk Mitigation

Through management of key risk elements such as size, seniority and collateral

Sell or assign lending commitments to other financial institutions

Netting agreements to offset obligations in derivate trading

Exposure by Country

Exposure by Industry

Regulation: Basel II Accord

• The First Pillar: Minimum Capital Requirements• Maintain three major risks: Credit Risk, Operational

Risk, Market Risk

• Minimum Capital Requirement: (risk weighted) 8%

• The Second Pillar: Supervisory Review• Assist the first pillar with regulatory responses• Deals with liquidity risk and other risks

• The Third Pillar: Market Discipline• Market disclosure

Basel & Morgan Stanley

• Transferred to Financial Holding Company since 2008

• Capital Standard: • Maintain a total capital ratio of 10%, minimum Tier 1

capital ratio is 6%

• Currently comply to Basel I, will adjust to Basel II

Morgan Stanley-Capital Ratio

Economic Capital-Function

• Estimate the amount of equity capital required to support the business over a wide range of market environments while simultaneously satisfying regulatory, rating agency and investor requirements

• Continue to evolve over time in response to changes in in business and regulatory environment and to enhance modeling technique

• Assign to each business segment and sub-allocate to product lines

• Align equity capital with risks in business segments to evaluate return on a risk-adjusted basis

Economic Capital-Calculation

• Regulatory Capital + Additional Capital for Stress Losses

• Stress losses include market, credit, business, and operational risks

• Economic Capital = Tier 1 Capital + Unallocated Capital

Regulatory Capital vs. Economic Capital

Economic Capital-Components

Economic Capital vs. Risks

Stress Losses

• Stress losses are defined at the 90% to 95% confidence interval in order to capture the worst potential losses in 10 to 20 years

• Types of stress losses: • Market: systematic, idiosyncratic (unsystematic) or

random risk• Credit: counterparty defaults• Business: earnings volatility• Operational: legal risk

Risk Factors

• Liquidity Risk: risk that is unable to finance its operations due to a loss of access to the capital markets or difficulty in liquidating its assets • Inability to raise fund in the L.T. or S.T. debt capital market /

equity capital market• Inability to access the secured lending markets • Inability to control the disruption of the financial market or

negative view to the industry• Depends on credit rating • Depends on payment from subsidiaries • Depends on U.S. and international market and economic

conditions

Liquidity

Note explanation

Liquidity

Equity Capital Management Policy

• Theory: Based on business opportunities, capital availability, and rates of return, internal capital policies, regulatory requirements, rating agency guidelines, changing in business needs

• Actions: Repurchase $4.4 billion out of $6 billion

Economic Capital

Liquidity Risk Management Policy

• Objects: Support the successful execution of the Company’s business strategies while ensuring sufficient liquidity through the business cycle and during periods of stressed market condition

• Approaches• Contingency Funding Plan

• Liquidity Reserves

Funding Management Policy

• Designed to provide for financings that are executed in a manner that reduces the risk disruption to the company’s operations

• Types of holdings • Secured Financing / Unsecured Financing

• Short-Term Borrowings

• Deposits

• Long-Term Borrowings

Credit Ratings

Off-Balance Sheet Arrangements with Unconsolidated Entities

• Institutional Securities Activities: Commercial and residential mortgage loans, CMOs, corporate bonds and loans, municipal bonds

• Guarantees:

Commitment and Contractual Obligations

• Market Risk: risk that a change in the level of one or more market prices or other market factors, which result in losses for a position or portfolio • Affected by market fluctuations and by economic and

other (political, availability and cost of capital, liquidity of global markets, level of volatility of prices…)

• Affected by the volatile and illiquid market conditions

• Affected by holding large and concentrated position

• Affected by the real estate sector

Risk Factors

Market Risk

• Actions• Monitor the Company’s risk against limits on aggregate

risk exposures • Perform a variety of risk analyses• Routinely report risk summaries • Maintain the Company’s VaR system

• Approaches• Diversification of risk exposures• Hedging • VaR and Sensitivity Analysis

VaR: Benefits and Shortcomings

• Benefits:• Takes into account linear and nonlinear risk exposures

• Capture correlation risks and basis risks / capture name specific risk (Monte Carlo Simulation)

• Response to the change in the composition of trading portfolios

• Estimate aggregate risk exposures

• Reflect risk reduction due to diversification & hedging

• Limitations:• Past changes in market may not yield accurate

prediction

• Changes in portfolio regarding market movement may differ from the model

• Time horizon not capture market risk position

• Historical data may only provide limited insight

• Future risk depends on future position

VaR: Benefits and Shortcomings

VaR 2009

The VaR increases for 2009 were primarily driven by increased exposure to interest rate and credit sensitive products across the trading and non-trading portfolios. The trading portfolio also experienced increases due to increased equity and foreign currency exposure. Additionally, the Company’s VaR for 2009 was affected by higher market volatilities over the period.

VaR Statistics

The company experienced daily trading losses on 38 days

Competitive Environment Risk

• strong competition from other financial services firms

• Competition for qualified employee • Automated trading markets may adversely affect

business and may increase competition

International Risk

• Subject to numerous political, economic, legal, operational, franchise and other risks

• In many countries, the laws and regulations applicable to the securities and financial services are uncertain, it is difficult to determine the exact requirements of local laws in every market.

• Various emerging market countries have experienced severe political, economic and financial disruptions, including significant devaluations of currencies, capital and currency exchange controls and high rates of inflation

Acquisition Risk

• unable to fully capture the expected value from acquisitions, joint ventures, minority stakes and strategic alliances

• need to combine accounting and data processing systems and management controls and to integrate relationships with clients and business partners

• conflicts or disagreements between MS and its joint venture partners may negatively impact the benefits

Morgan Stanley’s Position in the Derivatives Market

• Morgan Stanley is a trader, sale and user in the derivatives market

• Trading revenue takes big part in the total non-interest revenue

Trading and Selling Position

• Morgan Stanley conducts sales, trading, financing and market-making activities on securities and futures exchanges and in over-the-counter (“OTC”) markets around the world

• Equity Trading: including equity swaps, options, warrants and futures

• Interest Rates, Credit and Currencies: in listed futures and OTC swaps, forwards, options and other derivatives referencing, among other things, interest rates, currencies

• Commodities: including metals (base and precious), agricultural products, crude oil, oil products, natural gas, electric power, emission credits, coal, freight, liquefied natural gas and related products and indices

Trading and Selling Position

OTC Derivative ProductsFinancial Instruments Owned

OTC Derivative ProductsFinancial Instruments Sold, Not Yet

Using of Derivatives

• Morgan Stanley purchase or sale of positions in related securities and financial instruments, including a variety of derivative products (e.g., futures, forwards, swaps and options) to maintain a portfolio that the Company believes is well-diversified in the aggregate with respect to market risk factors

Using of Derivatives

• the Company enters into a variety of derivative contracts related to financial instruments and commodities for hedging purpose

• use of currency forward contracts or the spot market in various hedging transactions related to net assets, revenues, expenses or cash flows to reduce the risk from inflation and changes in FX rate

• the Company uses credit derivatives to manage its exposure to residential and commercial mortgage loans and corporate lending exposures during the periods presented

Using of Derivatives

• A credit derivative is a contract between a seller (guarantor) and buyer (beneficiary) of protection against the risk of a credit event occurring on a set of debt obligations issued by a specified reference entity. If a credit event occurs, the guarantor is required to make payment to the beneficiary based on the terms of the credit derivative contract.

Using of Derivatives

Hedge Accounting

• The Company applies hedge accounting using various derivative financial instruments and non-U.S. dollar denominated debt used to hedge interest rate and foreign exchange risk arising from assets and liabilities not held at fair value as part of asset and liability management and foreign currency exposure management.

• The Company’s hedges are designated and qualify for accounting purposes as one of the following types : fair value hedges and net investment hedges

Hedge Accounting

• Fair Value Hedges—Interest Rate Risk. The Company’s designated fair value hedges consisted primarily of interest rate swaps designated as fair value hedges of changes in the benchmark interest rate of fixed rate senior long-term borrowings.

• Net Investment Hedges. The Company may utilize forward foreign exchange contracts and non-U.S. dollar denominated debt to manage the currency exposure relating to its net investments in non-U.S. dollar functional currency operations.

Hedge Accounting

• The following tables summarize the gains or losses reported on derivative instruments designated and qualifying as accounting hedges

Hedge Accounting

• The following tables summarize the gains or losses reported on derivative instruments designated and qualifying as net investment hedges

Hedge Accounting

• The following tables summarize the gains or losses reported on derivative instruments NOT designated as accounting hedges

Hedge funds

• Investments in hedge funds may be subject to initial period lock-up restrictions or gates. A hedge fund lock-up provision is a provision which provides that, during a certain initial period, an investor may not make a withdrawal from the fund. The purpose of a gate is to restrict the level of redemptions that an investor in a particular hedge fund can demand on any redemption date.

Hedge funds

Compensation Philosophy

• 2008: the most challenging years ever experienced by the financial industry

• Reduction of Compensation:

-Three most senior officers—Chairman and CEO and Co-Presidents forgo a bonus for fiscal 2008

-Compensation for the 14 members of the Company’s Operating Committee was reduced by an average of 75% from 2007, and 2008 compensation for the 35 members of the Management Committee was reduced by an average of 65% from 2007

-Bonus compensation for other employees reduced by approximately 50% from 2007

Executives Compensation• Compensation Objectives and Strategy

Variable incentive compensation that is clearly and appropriately linked to Company and individual performance

A greater percentage of incentive compensation is delivered as long-term awards rather than cash bonus based on annual results.

The Company competes for talent globally with commercial banks, brokerage firms, hedge funds and other companies offering financial services. The CMDS making sure executive compensation programs are competitive across the industry.

Executives Compensation

Employee Stock-Based Compensation

• The accounting guidance for stock-based compensation requires measurement of compensation cost for equity based awards at fair value and recognition of compensation cost over the service period, net of estimated forfeitures

Deferred Stock Awards

Compensation Awards

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