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Morningstar | Morgan Stanley's Growth Likely To Slow as Institutional Securities Outperformed Year to Date

James Gorman's strategy for narrow-moat Morgan Stanley has been substantially realized over the previous couple of years, so we believe that earnings growth and return-on-equity increases are going to slow going forward. Operating margins in the wealth management segment expanded to 27% in the third quarter from about 18% in 2013. Much of the operating margin expansion came from cost rationalization and an over 20% compound annual growth rate in net interest income. However, management is now expecting net interest income growth in the single digits going forward, primarily related to asset growth instead of net interest margin expansion. While we have always viewed Morgan Stanley's expansion into wealth management favorably, the outsized growth in that unit is likely over. We don't anticipate making a material change to our $51 fair value estimate for the company and view shares as fairly valued to modestly undervalued at current prices.

For the first nine months of 2018, total operating income grew 18% and return on adjusted tangible common equity increased to 14.9% from 11.1% the previous year. While wealth management operating income increased a healthy 11%, operating income in the institutional securities segment increased 24%. Much of the year-over-year improvement came from the more volatile institutional securities segment that likely received a benefit from tax reform being resolved and generally better trading activity in the first half of the year. Going forward into next year, wealth management growth has already slowed and institutional securities is arguably at a peak where further growth will be tough to come by and a decline is definitely in the cards. Larger areas for potential improvement are not revenue-related and include a drop off in compensation agreements in wealth management and higher capital returns.