Morgan Stanley maintains an edge over Goldman Sachs due to its burgeoning wealth unit

Earnings declines at two of Wall Street’s leading investment banks drew contradictory reactions from investors, who punished Goldman Sachs for a sharp drop in investment banking fees, while rewarding Morgan Stanley’s push into more stable business.

The earnings also underlined the benefits of Morgan Stanley’s expansion into wealth and asset management under CEO James Gorman. However, Goldman still relies heavily on deal-making and trading for its profits, and it’s the business least valued by investors because of unexpected revenue.

Goldman and Morgan Stanley have both dropped investment banking fees by nearly 50 percent, amid a dearth of mergers and new equity market listings. However, record wealth management returns at Morgan Stanley helped partially offset the declines.

That allowed Morgan Stanley to post fourth-quarter net profit of $2.2 billion, beating analyst estimates, while Goldman fell short of expectations with $1.3 billion in what CEO David Solomon admitted was a “disappointing” performance.

“Morgan Stanley has clearly benefited from the leverage provided by both the Wealth Management and Investment Management units,” said Jason Goldberg, banking analyst at Barclays.

Morgan Stanley shares closed up about 6 percent in New York, while Goldman shares fell 6.4 percent. The S&P 500 is virtually unchanged.

Morgan Stanley’s price-to-book ratio, which compares the bank’s share price against the value of its assets, is currently about 1.7 times, compared to 1.04 times for Goldman, according to Morningstar.

“It’s fair to say that our business model has been put to the test this year,” Gorman said on an analyst call. “We focus on the markets we know best.”

$1 billion market capitalization line chart showing Morgan Stanley's market capitalization outperforming Goldman Sachs

While Morgan Stanley focused on acquisitions that bolstered wealth management and asset management, one of the main pillars of Goldman’s diversification efforts has been its consumer banking business. But Solomon is now scaling back the effort after years of losses and investor unease.

Solomon acknowledged that Goldman “tried to do too much too quickly” in retail banking after first foraying into the business in 2016 under former chief executive Lloyd Blankfein.

A portion of Boldman’s consumer business was consolidated into the newly formed “Platform Solutions” division which suffered a fourth-quarter pre-tax loss of $778 million, largely due to provisions to cover potential losses on loans Goldman made to consumer customers.

In what some analysts took as a nod to Goldman, Morgan Stanley’s earnings presentation included unsecured consumer credit on its list of “what we don’t like owning.”

“It’s very clear that Morgan Stanley has more robustness in its model,” said Christian Polo, research analyst at Autonomous Research. “It’s something Goldman is aspiring to, but they’re clearly not quite there yet.”

Goldman is now doubling down on its asset and wealth management business in hopes that this can replicate the kind of recurring profits Morgan Stanley is making.

Our number one priority for Asset and Wealth Management is to increase our management fees. “That’s durability, that’s predictability,” Dennis Coleman, Goldman’s chief financial officer, told the Financial Times.

Part of that will be achieved by reducing Goldman’s so-called investments on the balance sheet, a relic of the era when the bank bet its own capital for investments. This business can turn in lucrative profits in good years, but it can also force the bank into painful losses, such as losses on $660 million of stock market investments in the fourth quarter.

Goldman sells these investments on the balance sheet while also raising outside funds for the investment.

A disappointing few months for Goldman is being felt across the bank, as earlier this month the company laid off about 3,200 employees, roughly 6 percent of its workforce, as well as embarking on a broad cost-cutting program. On Tuesday, the bank said, by contrast, Morgan Stanley cut staff by 1,800 in December and has no plans for more layoffs.

Gorman said Morgan Stanley is holding extra capital above regulatory requirements that would allow it to make more investments if the right opportunity presented itself.

“We don’t think we’re heading into a dark period,” Gorman added. “We want to make sure we’re in a position to grow. This thing is going to turn around, mergers and acquisitions [and] The subscription will be back, I’m sure of it. So we want to be in a good position for that.”

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