Six weeks ago, on November 7, Morgan Stanley indicated it was taking a write down of $3.7 billion of subprime assets based on valuations as of October 31. It has now taken another $4.1 billion of write downs based on subprime trading positions on November 30, taking the total to $7.8 billion. It has attributed the situation to the ôdeterioration and lack of liquidity in the market for subprime and other mortgage-related securities since August 2007ö.
The $9.4 billion also includes $1.2 billion of write downs related to European non-conforming loans, commercial mortgage-backed securities and other loans. An additional $0.4 billion relates to securities in the subsidiary banks classified as "available for sale".
Morgan Stanley clarified that its ôremaining direct net US subprime exposure is $1.8 billion at November 30, down from $10.4 billion at August 31ö.
ôThe write down Morgan Stanley took this quarter is deeply disappointing,ö says John Mack, chairman and CEO of Morgan Stanley in a written statement. ôUltimately, accountability for our results rests with me so IÆve told our compensation committee that I will not accept a bonus for 2007.ö
Mack referred to the $9.4 billion as ôisolated losses by a small trading team in one part of the firmö.
He also highlighted that for the year the US investment bank had delivered ôrecord results in investment banking, equities and asset managementö and had more than doubled pre-tax income in global wealth management.
Morgan Stanley will be bailed out through an issue of $5 billion of equity units to China Investment Corporation (CIC). The equity units bear a coupon of 9% per annum, payable quarterly, and are mandatorily convertible into Morgan Stanley common shares at maturity on August 17, 2010. The conversion price will be based on a reference price, which will be determined the week of December 17, with a threshold at a premium of 20% to the reference price. CIC has agreed it will own a maximum of 9.9% of Morgan Stanley post-conversion.
CIC was established in September 2007 to manage ChinaÆs foreign exchange reserves and has assets under management of $200 billion, of which two-thirds are for domestic investment and one-third for overseas investment.
CIC clarified in a written statement that the decision is based on its belief that ôMorgan Stanley has potential for long term growthö and that the investment ôis a long term, passive financial investmentö. CIC was advised by Lazard with legal advice from Sullivan & Cromwell.
Mack linked the CIC investment to Morgan StanleyÆs commitment to China and the $45 billion the US investment bank has helped Chinese clients raise in the international capital markets since 2000.
Morgan Stanley said the capital infusion would ôbolster the firm's capital position and enhance growth opportunities globally, while also building on Morgan Stanley's deep historic ties and market leadership in Chinaö. It also clarified that CIC would get no management rights or board representation as a result of its investment.
Morgan Stanley is the latest in a series of casualties which the US subprime situation has caused. In October, Bear Stearns inducted Citic as an investor to shore up its capital by $1 billion. Then, in November, Citi announced a sale of up to 4.9% of its shares to the Abu Dhabi Investment Authority to bolster its capital base by $7.5 billion. And most recently, on December 10, the Government of Singapore Investment Corporation (GIC) and an undisclosed strategic investor from the Middle East extended a $11.5 billion lifeline to Swiss bank, UBS.
Citi's CEO Charles (Chuck) Prince took responsibility for the losses and resigned in November. Merrill Lynch's boss Stan O'Neal resigned in October for similar reasons.
Vikram Pandit who has replaced Prince in the top job at Citi is expected to take some hard decisions with respect to business lines at the US bank and, the word on the street, is that carve-outs can be expected. At UBS, no heads have rolled but bosses have indicated that the role of investment banking in the Swiss firm - which was traditionally known for its wealth and asset management practices - will be closely examined.
One thing seems clear û Mack is not going to be the only one foregoing a bonus in 2007. And as the shadow cast by the subprime situation lengthens, bankers in Asia can no longer reasonably expect to remain immune to the woes û even if they are not directly responsible for the losses.
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