By Liz Hoffman and Peter Rudegeair 

Morgan Stanley delivered a strong showing in its fixed-income trading business Wednesday but also tried to keep investor expectations in check.

"Yes, it's a good number this quarter," said Chief Executive James Gorman, as he announced the firm's stronger-than-expected earnings. But he said shareholders had overreacted to poor performance in the trading unit last year, and he didn't want them to overreact in the opposite direction now.

"Let's see how it plays out over not each individual quarter, but over the next couple of years," he said.

The stock rose 2.1% on Wednesday but remains down 10% for the year.

Morgan Stanley made $1.3 billion trading bonds, currencies and commodities last quarter, beating the $1 billion target Mr. Gorman laid out last month. Analyst Glenn Schorr of Evercore ISI summed up Wall Street's surprise: "Not a typo," he wrote.

But the bank has a complicated history with fixed income and in recent months cut 25% of its staff in the business. Many investors would prefer Morgan Stanley to focus on more stable businesses such as wealth management, equities trading and investment banking. But hitting profit targets and increasing revenue at any securities firm without fixed income is difficult.

Morgan Stanley's overall profit fell 12% to $1.58 billion, or 75 cents a share. Revenue slipped 8.6% to $8.9 billion. Both measures topped analyst expectations.

This quarter, Morgan Stanley did more with less. It recently sold an oil merchant and reduced staff by 25% in the fixed-income business. With a slimmer staff, Morgan Stanley didn't get the same bump in trading revenue as its rivals did. Overall trading revenue fell 2% in the second quarter, excluding an accounting adjustment, while it rose by a double-digit percentage at J.P. Morgan Chase & Co., Citigroup Inc. and Bank of America Corp.

Trading is the biggest single source of fees on Wall Street but has been in decline since the crisis due to tougher capital rules and diminished client appetite to take risks.

Activity rebounded this quarter as investors shook off first-quarter jitters and Britain's vote to leave the European Union generated a flurry of late-quarter trading.

While Morgan Stanley didn't benefit as much as its peers, it showed early signs of progress from a recent shake-up. Over the past year, Mr. Gorman has installed two executives from Morgan Stanley's stock-trading desk to oversee the fixed-income business and aggressively cut costs in the division.

Wednesday, he said those changes were starting to bear fruit. Progress "was not going to evidence itself in the days and weeks following the realignment, but we felt pretty confident in the months and years following it, it would," he said. "And maybe we are starting to see some of that."

Still, Morgan Stanley has seen glimmers of a turnaround in its fixed-income business before and has ended up disappointing investors. In early 2015, it narrowed the gap with rival Goldman Sachs Group Inc. in fixed-income trading, but followed that with two disappointing quarters.

Morgan Stanley's strength often comes from the other side of the trading floor, buying and selling stocks. The equities desk where stocks, derivatives and exchange-traded funds trade is perennially Wall Street's busiest, churning out roughly $2 billion in revenue a quarter. In a reversal, second-quarter revenue in that unit fell 5% against a tough comparison to a strong 2015 showing.

The bank showed progress on two other long-term goals of Mr. Gorman: cutting costs and boosting loans to clients of the firm's large wealth-management unit.

Firmwide expenses fell 8%. The savings mostly came from lower compensation, which fell alongside revenue, though executives said they were making progress on other initiatives, such as cutting nonessential travel by 50% through the six months of this year.

Meanwhile, loans to wealth-management clients hit a record $69 billion. Morgan Stanley has focused on offering tailored loans to wealthy individuals, against stock they own as well as assets such as real estate and art collections.

Still, progress on one of Mr. Gorman's key goals remained elusive. The bank's return on equity was 8.3% in the second quarter, better than the first quarter but below the 9% of last year and the 9% to 11% range it hopes to hit by next year.

Write to Liz Hoffman at liz.hoffman@wsj.com and Peter Rudegeair at Peter.Rudegeair@wsj.com

 

(END) Dow Jones Newswires

July 21, 2016 02:47 ET (06:47 GMT)

Copyright (c) 2016 Dow Jones & Company, Inc.
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