Last year, Morgan Stanley (MS 0.10%) hiked its quarterly dividend by a huge amount, increasing it 100% to $0.70 per share. On the second-quarter 2021 earnings call, CEO James Gorman explained the decision:
We made this decision because of the confidence we have in our business model and our performance over the past three Federal Reserve stress test[s]. These tests confirmed what we've said for many years; Morgan Stanley has built a significant amount of excess capital and we have the ability to invest in our business, do acquisitions, maintained a very healthy dividend yield, and increase our buyback.
Last year was a record-setter for Morgan Stanley as it posted $59.8 billion in revenue and $15 billion in net income. Its institutional securities business, which includes investment banking, led the way with record revenue, while its wealth management and investment management arms also saw revenue soar. The company closed on two major acquisitions, E*Trade and money manager Eaton Vance, and was well-capitalized with a common equity tier 1 (CET1) ratio of 16%.
One year later, the economy has gone through some changes that have created rising pessimism and concerns about rising interest rates and a recession. Can Morgan Stanley still support that huge dividend increase in this more difficult market environment?
Navigating a difficult market
Since doubling its dividend last year, Morgan Stanley has maintained that quarterly payout, recently declaring a $0.70 dividend for the second quarter of 2022. The yield has crept up to 3.84% from 1.53% at the end of the second quarter of 2021, but that share price is down significantly since then. Morgan Stanley's stock price is down 25.7% year to date and 17.1% over the past 12 months, currently trading around $73 per share.
It's clearly a different market than it was a year ago, as Morgan Stanley's earnings indicate. In the first quarter, Morgan Stanley reported revenue of $14.8 billion, down 5.7% from a year ago, while net income was $3.7 billion, down 9.7% year over year. The drop was primarily related to the institutional securities business, particularly investment banking, which saw revenue decline 38% year over year due to a slowdown in mergers and acquisitions and advisory activity. Wealth management and investment management revenue were both basically flat.
As a result of the earnings decline, the payout ratio has increased to maintain that $0.70 dividend. Last year at the end of the second quarter, the payout ratio was 21% -- now it's about 32%, meaning 32% of the earnings go toward supporting the dividend.
MS Payout Ratio data by YCharts
Is it sustainable?
While the payout ratio has increased, it remains at a level that is sustainable for the company to continue to support the dividend. The company also remains well-capitalized with a CET1 ratio of 14.5%, which is down from 16.7% a year ago but is above the required 13.2% minimum. The CET1 ratio is a measure of how much liquidity a bank has to withstand a stress or crisis. On the earnings call, Gorman said it dropped 50 basis points due to unrealized losses in the available-for-sale securities portfolio, but he expects to earn that back and get it up to 15%. Overall, the company still has a comfortable buffer.
And while earnings were down from last year's record numbers, Morgan Stanley appears to have the earnings power to maintain that dividend without sacrificing other investments in its growth. The company has been buoyed by its wealth management business, which is one of the largest in the world. In the first quarter, revenue was flat, but Gorman sees this business carrying the load during an economic downturn that affects the institutional securities business.
At the Morgan Stanley US Financials Conference on June 13, Gorman said the wealth management business could maintain a 25% profit margin even if the bear market continues. He said the deposit base will benefit from rising interest rates and the fee-based revenue will remain stable as assets are invested in more conservative holdings. "Our business was designed for this kind of environment," Gorman said at the conference. "We always said we wanted to do fine when things are difficult. If that means we're not as good when things are on fire, so be it."
So overall, it looks like Morgan Stanley will be able to maintain that dividend, even if the market continues to head south.
