Fitch Affirms Morgan Stanley at 'A'/'F1'; Outlook Revised to Stable

(The following statement was released by the rating agency) Fitch Ratings-Chicago-20 November 2020: Fitch Ratings has affirmed Morgan Stanley (NYSE:MS) Long-Term and Short-Term Issuer Default Ratings (IDRs) at 'A' and 'F1', respectively. The Rating Outlook has been revised to Stable from Negative. While the operating environment remains challenging overall, Fitch believes that MS will continue to perform well within expectations for an 'A'-rated bank. Key Rating Drivers IDRs, Viability Ratings (VRs) AND SENIOR DEBT The affirmation of MS ratings reflects the firm's solid performance through the pandemic, strong capital position and the continued execution of its strategy to diversify and solidify more durable sources of revenue through organic and inorganic growth. The revision of the Outlook to Stable reflects Fitch's view that MS continues to have meaningful headroom within its rating compared to expected performance and capital strength supported by a diverse business mix. MS's business mix has resulted in notable resilience relative to many of its global and universal trading bank (GTUB) peers as well as relative to its rating during the onset of the coronavirus pandemic and the ensuing economic downturn. While MS and its peers have equally benefited from the capital markets environment, Fitch notes that MS's relatively lower exposure to higher risk corporate and consumer credit has allowed the firm to avoid downward pressure on earnings performance from material provisions to credit loss reserves. And while MS's institutional securities (ISG) business naturally exposes it to potentially lumpy credit costs should economic conditions once again worsen, the firm has significantly built reserves to the riskier corporate and commercial real estate asset classes within the segment since YE 2019. As such, Fitch expects performance within ISG to remain reasonable over the rating time horizon, driven by industry and market trends. MS's steady performance in its wealth management (WM) and investment management (IM) business segments have contributed to MS's performance and supported today's affirmation and Stable Rating Outlook. These segments, which are naturally balance sheet-light, have been thoughtfully built out over recent years and have exhibited an ability to support earnings performance in the current challenging economic environment. Segment margins have been robust at between 20% and 30% and returns on allocated capital have been supportive of overall firm performance. Fitch observes that the two segments will continue to grow in importance for the firm's overall profitability. With the recent E*Trade Financial Corp. purchase augmenting MS's wealth business and the announced acquisition of Eaton (NYSE:ETN) Vance Corp. (EVC) expected to be additive to the firm's investment management business, MS has taken further steps toward its objective of increasing more durable, lower-risk sources of revenue. Between these segments' performance as well as expected reasonable performance within ISG, MS will likely emerge from the pandemic with profitability levels well within Fitch's 'a' category, leaving the firm with ample performance headroom, as reflected in the revision of the Earnings & Profitability Factor Outlook to Stable. Taken together, Fitch believes these factors could lead prospectively to a stronger Company Profile score than the current score of 'a-', which is below the firm's overall rating. Further supporting today's action is Fitch's expectation around MS's capital levels and capital management. MS entered the pandemic and ensuing downturn with significant capital buffers and headroom relative its capitalization and leverage factor score compared to peers. The firm, along with peers, has shown a notable ability to build capital since 1Q20, with its standardized and advanced approach common equity tier 1 (CET1) ratios each increasing 160bps. Importantly, in Fitch's view, the recently closed acquisition of E*Trade and the proposed merger with EVC should incrementally improve MS's performance under regulatory stress tests due to likely improved pre-provision net revenue (PPNR) without any notable credit or market risk offset. Thus, while the EVC purchase is expected to use around 100bps of MS's excess capital, Fitch anticipates the firm's CET1 ratio to remain well-above its regulatory stress capital buffer minimum over the long term, even in a continued challenging operating environment. Therefore, the Outlook on the capitalization and leverage factor score has been revised to Stable. DOMESTIC SUBSIDIARY AND AFFILIATED COMPANY The VRs remain equalized between MS and its material operating subsidiaries. The holding company VR is based on a consolidated analysis of the entire group and Fitch has not notched it down from the bank due to strong liquidity management and reasonable double leverage. The Long-Term IDRs of MSBNA is rated one notch higher than MS's Long-Term IDR to reflect Fitch's belief that the U.S. single point of entry (SPE) resolution regime, the implementation of total loss absorbing capacity (TLAC) requirements for U.S. global systemically important banks (G-SIBs), and the presence of substantial holding company debt reduces the default risk of MSBNA relative to the holding company. Additionally, MSBNA's 'F1' Short-Term IDR is at the lower of two potential Short-Term IDRs, which map to an 'A' Long-Term IDR on Fitch's rating scale, in order to reflect the company's greater reliance on wholesale funding than more retail-focused banks. Morgan Stanley Finance, LLC (MSF) is a directly, wholly owned finance subsidiary of MS whose principal activity is the issuance of borrowings, and up-lending the proceeds to its parent. MS has provided an unconditional and irrevocable guarantee for payment of all amounts due in respect of the senior unsecured notes. As such, this guarantee serves as floor for the IDR of MSF, and its ratings are equalized to the parent-level IDR of 'A'. Further, the senior unsecured debt securities are also equalized to the parent level IDR of 'A'. MS and its non-bank operating companies' Short-Term IDRs of 'F1' reflect Fitch's view that there is less surplus liquidity at these entities than at the bank, particularly given their greater reliance on the holding company for liquidity. DERIVATIVE COUNTERPARTY RATING The DCRs of MS is equalized with its Long-Term IDR because they have no definitive preferential status over other senior obligations in a resolution scenario, and therefore the DCR will move in line with the IDR. SUPPORT RATING AND SUPPORT RATING FLOOR MS and MSBNA's Support Ratings (SR) and Support Rating Floors (SRF) reflect Fitch's view that senior creditors cannot rely on receiving full extraordinary support from the sovereign in the event that MS becomes non-viable. In Fitch's view, implementation of the Dodd Frank Orderly Liquidation Authority legislation provides a framework for resolving banks that are likely to require holding company senior creditors participating in losses, if necessary, instead of/or ahead of the company receiving sovereign support. SUBORDINATED DEBT AND OTHER HYBRID SECURITIES Subordinated debt and other hybrid capital issued by MS are all notched down from the common VR in accordance with Fitch's assessment of each instrument's respective non-performance and relative loss severity risk profiles, which vary considerably. MS's subordinated debt rating of 'BBB+' reflects the baseline notching for loss severity of two notches from the VR. MS's subordinated debt does not meet the specific conditions under Fitch's criteria for applying a one notch variance from the VR. MS's preferred stock rating of 'BBB-' is four notches from the VR, which encompasses two notches for non-performance and two notches for loss severity, in line with Fitch's Bank Rating Criteria. DEPOSIT RATINGS Deposit ratings are one notch higher than senior debt ratings reflecting the deposits' superior recovery prospects in case of default, given depositor preference in the U.S. RATING SENSITIVITIES IDRs, VRs AND SENIOR DEBT Factors that could, individually or collectively, lead to a negative rating action/downgrade include: The ratings remain sensitive to the ultimate depth and duration of the ongoing impact of the coronavirus to the international economy and financial markets, and the pace of economic recovery. As noted above, Fitch believes MS's ratings have meaningful headroom to withstand further economic deterioration. However, they could be downgraded if the economic and financial market disruption arising from the pandemic places severe and sustained pressure on the group's asset quality, earnings and capitalization. MS and its peers have been restricted by regulators from conducting share buybacks over recent quarters. Should these restrictions be lifted Fitch might regard a resumption of material share repurchases negatively from a rating perspective if not in the context of a sustained improvement in the operating environment. Moreover, a sustained decline in MS's CET1 ratio below its most recent stress capital buffer minimum without a credible plan to rebuild it above could also pressure ratings. Although not expected, pressure on MS's rating could emerge over time should the bank suffer significant outflow or market losses in its wealth management assets under management. Finally, MS's ratings and/or Outlook could also be pressured downward if Fitch observes MS's sales and trading business post quarterly losses which could be indicative of weaknesses in risk controls. Accordingly, if operating profit/risk-weighted assets falls below 2% for four consecutive quarters, ratings will be reviewed for a potential downgrade. Factors that could, individually or collectively, lead to a positive rating action/upgrade: Before the onset of the pandemic, Fitch had previously indicated that MS's rating had additional upside through a normal business cycle. Over the medium term, should economic conditions normalize and MS's financial performance show early signs of mean reversion before peers, particularly due to perceived execution on prior strategies, the Outlook could be revised to Positive or a rating upgrade could be warranted. This would be evidenced by the firm's WM and IM segments' consistently contributing between 55% and 60% of core pre-tax profits with overall firm profitability remaining in-line with an implied earnings score of 'a' or higher. An upgrade would also be predicated on the company maintaining a conservative risk appetite and asset quality measures near those of higher-rated peers during this expected period of stress. This would be done by maintaining capital levels above or in line with similarly rated peers. Domestic SUBSIDIARY AND AFFILIATED COMPANY All U.S. bank subsidiaries carry a common VR, regardless of size, as U.S. banks are cross-guaranteed under the Financial Institutions Reform, Recovery and Enforcement Act (FIRREA). Thus, subsidiary ratings would be sensitive to any change in MS's VR. Other subsidiary ratings would be sensitive to the same factors that might drive a change in MS's IDRs. DERIVATIVE COUNTERPARTY RATING DCRs are primarily sensitive to changes in the respective issuers' Long-Term IDRs. In addition, they could be upgraded one notch above the IDR if a change in legislation creates legal preference for derivatives over certain other senior obligations and, in Fitch's view, the volume of all legally subordinated obligations provides a substantial enough buffer to protect derivative counterparties from default in a resolution scenario. SUPPORT RATING AND SUPPORT RATING FLOOR Support ratings would be sensitive to any change in Fitch's view of U.S. sovereign support. However, since support ratings were downgraded in May 2015, there is unlikely to be any change to support ratings. SUBORDINATED DEBT AND OTHER HYBRID SECURITIES Subordinated debt and other hybrid ratings are primarily sensitive to any change in MS's VR. DEPOSIT RATINGS MS's deposit ratings are sensitive to any change in the IDRs. Best/Worst Case Rating Scenario International scale credit ratings of Financial Institutions and Covered Bond issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of four notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit [https://www.fitchratings.com/site/re/10111579] REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING The principal sources of information used in the analysis are described in the Applicable Criteria. ESG Considerations Unless otherwise disclosed in this section, the highest level of ESG credit relevance is a score of '3'. This means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/esg Morgan Stanley International Finance S.A ----senior unsecured; Short Term Rating; Affirmed; F1 Morgan Stanley; Long Term Issuer Default Rating; Affirmed; A; Rating Outlook Stable ; Short Term Issuer Default Rating; Affirmed; F1 ; Viability Rating; Affirmed; a ; Support Rating; Affirmed; 5 ; Support Rating Floor; Affirmed; NF ; Derivative Counterparty Rating; Affirmed; A(dcr) ----senior unsecured; Long Term Rating; Affirmed; A ----subordinated; Long Term Rating; Affirmed; BBB+ ----preferred; Long Term Rating; Affirmed; BBB- ----senior unsecured; Short Term Rating; Affirmed; F1 Morgan Stanley Canada Ltd.; Short Term Issuer Default Rating; Affirmed; F1 ----senior unsecured; Short Term Rating; Affirmed; F1 Morgan Stanley Finance, LLC; Long Term Issuer Default Rating; Affirmed; A; Rating Outlook Stable ----senior unsecured; Long Term Rating; Affirmed; A Morgan Stanley Bank, N.A.; Long Term Issuer Default Rating; Affirmed; A+; Rating Outlook Stable ; Short Term Issuer Default Rating; Affirmed; F1 ; Viability Rating; Affirmed; a ; Support Rating; Affirmed; 5 ; Support Rating Floor; Affirmed; NF ----long-term deposits; Long Term Rating; Affirmed; AA- ----short-term deposits; Short Term Rating; Affirmed; F1+ Morgan Stanley Secured Financing LLC ----senior unsecured; Short Term Rating; Affirmed; F1 Contacts: Primary Rating Analyst Bain Rumohr, Senior Director +1 312 368 3153 Fitch Ratings, Inc. 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