Six months ago Morgan Stanley was on the threshold of a strategy that would move one of the most storied names on Wall Street into the workaday world of branch banking.
It had gotten itself reclassified as a bank holding company, made a high-profile hire from Wachovia Corp. and started scouting for acquisitions that would ramp up its retail deposit base.
Of course, in this environment, developing a new financial services model is like trying to hit a moving target. To the surprise of few, Morgan Stanley executives indicated in the past two weeks that the branch-banking idea is no longer on the table.
But it is still hungry for retail deposits. And now that it is merging its global wealth management business with Citigroup Inc.'s Smith Barney, Morgan Stanley has the potential to get them — without making the big investments that a branch strategy would have required.
"They're going to go the route of deposit-gathering through a more modern structure, through brokerage accounts rather than traditional banking," said Marian Kessler, an analyst with Becker Capital Management Inc. in Portland, Ore. "I don't think they'll look like a bank at all. They'll look like a diverse financial services company that serves both institutionals and, in more of a high-end way, retail customers."
Instead of concentrating on potential branch acquisitions, Cece Sutton, the Wachovia veteran who joined Morgan Stanley in November, will be in charge of designing retail banking services for clients of Morgan Stanley Smith Barney. The joint venture, to be 51% owned by Morgan Stanley when the transaction closes this year, will bring together more than 20,000 financial advisers and $1.7 trillion in client assets. Through that business, Morgan Stanley plans to expand its cash management, checking, lending, card and other retail offerings.
"The clear view now is that the retail banking business will be part of an integrated wealth management offering," said James Wiggins, a Morgan Stanley spokesman.
What is clear now was far less so in the fall, when grave doubts about the funding model used by the two remaining bulge-bracket investment banks — Morgan Stanley and Goldman Sachs Group — sent both firms scrambling for life preservers in the form of bank deposits.
Goldman was quick to wave off the idea of retail banking, saying it would focus on drumming up deposits from its institutional clients. But Morgan Stanley, which many analysts said was in the weaker position of the two, moved aggressively to show investors it could build a diversified funding base. It also was closer historically to the retail banking business, as a result of the 1997 merger with Dean Witter, Discover & Co.
Still, skepticism about Morgan Stanley's future as a branch-banking player abounded.
"Lawyers have a term called post-hoc rationalization, where you just do something and you make up a reason afterward," said Cornelius K. Hurley, director of Boston University's Morin Center for Banking and Financial Law. Morgan Stanley and Goldman Sachs "converted to bank holding companies to get Fed funding and market credibility; the rest of this was post-hoc rationalization."
The pressure to gather retail deposits has eased since Morgan Stanley went on the hunt for them. It said it has been gaining market share across its principal investment banking businesses — a result of last year's drastic reshaping of Wall Street — and at the end of the first quarter it had stable funding equal to 44% of total assets, versus 36% at the end of November. The firm's goal is to raise that figure to 50%.
The joint venture agreement with Smith Barney, hastened by Citi's need to raise capital, should help Morgan Stanley continue to diversify its funding base without plowing resources into a costly, stand-alone retail operation.
According to press accounts, John Mack, Morgan Stanley's chairman and chief executive officer, told reporters last week at its annual meeting that the Smith Barney deal was his company's "No. 1 focus," and that "to go out and think about acquiring anything" in retail banking "right now just makes no sense."
The rapid evolution of Morgan Stanley's retail strategy in some ways mirrors the more drawn-out trends that have been reshaping the banking industry for more than a decade.
"In the short run, one of the best ways to quickly raise new retail deposits is to open up a branch," said Bob Hedges, managing partner at Mercatus LLC, a Boston consulting firm. "If you take the long-term view, there's no question that we don't need all the branch capacity that the country has."
Firms such as Charles Schwab Corp. and ING Group NV have proved that financial services companies can amass deposits without building traditional bank branches, Hedges said.
And even though the financial crisis might have made consumers less trusting of big wire houses such as Smith Barney and Morgan Stanley, "they are still viewed as being sources of expertise and sources of investment product," he said.