Morgan Stanley reports $9.4 billion write-down

This is off The New York Times:

Morgan Stanley reported the first quarterly loss in its 72-year history, heightening fears that the financial toll would keep mounting from the fast-spreading crisis in the subprime mortgage market.

The company took a $9.4 billion charge on subprime-linked investments for the fourth quarter and, in a stark reflection of its diminished status, said it would sell a $5 billion stake to a Chinese investment fund to shore up its capital.

Wall Street banks so far have reported more than $40 billion of losses as a result of the crisis in the mortgage market. Worst-case estimates put the eventual bill at $200 billion or more. The tally is likely to rise again Thursday when Bear Stearns is expected to report a quarterly loss.

The developments on Wednesday mark a stunning turn of events for Morgan Stanley, an offshoot of the Morgan banking dynasty that has counseled corporate America since the Depression. John J. Mack, the bank’s chief executive, said he took full responsibility and would forgo a bonus for 2007.

Again, it is the subprime mortgage loans that were pre-packaged into investment securities that Morgan Stanley, and the rest of Wall Street, were speculating on. Everyone was busy raking in the supposed easy money, not realizing that they were building a house of cards that has now completely crashed. Thus we've got Morgan Stanley reporting a huge loss of $9.4 billion, and this new report of Morgan Stanley selling another $5 billion stake to a Chinese investment firm "to shore up its capital." Did Morgan Stanley sell these subprime mortgage-backed investment securities to this unnamed Chinese investment firm? There is more to this story than what is now being reported.

Going back to the NY Times article:

The drastic losses may heighten speculation about the fate of Mr. Mack, who returned to the firm in 2005 after the removal of his predecessor, Philip J. Purcell. One of Mr. Mack’s signature changes was to push the firm further into trading using its own capital, an effort to emulate its profitable archrival, Goldman Sachs. His strategy worked for a while but then backfired when trades in tricky subprime-linked securities went wrong, resulting in the biggest write-down in the firm’s history.

While Mr. Mack is expected to keep his job, his compensation will plummet — one of the harshest punishments meted out on Wall Street, short of showing an executive the door. Last year, Mr. Mack made $40 million. This year he will take home about $800,000. His paycheck is particularly humiliating since Lloyd C. Blankfein, the chief executive of Goldman Sachs, is likely to receive a $70 million bonus. James E. Cayne, the chief executive of Bear Stearns, is also expected to forgo a bonus.

With all the disgust of Wall Street firms taking big losses while the CEOs are fired wearing golden parachutes, Mack has ended up being the sacrificial CEO scapegoat in losing his parachute as a result of the subprime mortgage mess. I doubt that the rest of the Wall Street CEOs will give up their excessive paycheck as the financial firms continue reporting huge losses.

Now let's get into some details on the Chinese investment firm. From the NY Times:

As for the investment from China, Mr. Mack framed the transaction not as a desperate act but as a strategic move. And he refused to concede that Morgan Stanley was a weakened firm. “We remain bullish on Morgan Stanley’s significant growth potential,” he said.

Still, the investment shows how reliant Morgan Stanley and Wall Street are on foreign funds and gives additional credence to the joke now circulating on trading floors. The joke is: “Shanghai, Dubai, Mumbai or goodbye.”

The fund, the China Investment Corporation, has agreed to purchase almost 10 percent of the company. It will have no role the management of Morgan Stanley. Citigroup recently sold a stake to a Middle East fund.

The deal marks an abrupt shift in strategy for China’s $200 billion sovereign fund and underlines the extent to which it appears to be under the direct control of the country’s leaders.

Morgan Stanley executives first began discussing an investment with the fund this summer, but it wasn’t until recently that the deal was struck. For Morgan Stanley, the terms of the deal are severe. The firm will pay annual interest of 9 percent on bonds that will be convertible into Morgan Stanley stock in 2010.

The China Investment Corporation is under the control of China’s finance ministry, with some influence as well from the People’s Bank of China, the country’s central bank. There has been discussion in the Chinese government over whether even more foreign currency should be injected into the investment fund, as the People’s Bank of China continues to accumulate $1 billion a day as it buys up dollars to prevent the value of China’s currency from rising in international markets.

I wonder if the Chinese were feeling nervous about their own investments into the subprime mortgage-backed securities, or perhaps even their own stake in Morgan Stanley investment funds, and wanted to sell those securities. Morgan Stanley couldn't sell them for the Chinese, precipitating a potential collapse here. Perhaps Morgan Stanley couldn't pay the interest payments to the worthless securities they sold to the China Investment Corporation. Either way, a harsh deal was made against Morgan Stanley, where the firm would have to pay 9 percent interest on the bonds, before they will be converted into Morgan Stanley stock in 2010. What is especially scary here is how many other Wall Street firms are also feeling such heat coming from the Chinese dragon?