10-Q 1 d542053d10q.htm 10-Q 10-Q
Table of Contents

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES

EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2013

OR

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES

EXCHANGE ACT OF 1934

Commission File Number 1-11758

 

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(Exact Name of Registrant as specified in its charter)

 

       

Delaware

(State or other jurisdiction of

incorporation or organization)

 

1585 Broadway

New York, NY 10036

(Address of principal executive

offices, including zip code)

 

36-3145972

(I.R.S. Employer Identification No.)

  

(212) 761-4000

(Registrant’s telephone number, including area code)

Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

Indicate by check mark whether the Registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the Registrant was required to submit and post such files).    Yes  x    No  ¨

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large Accelerated Filer x

   Accelerated Filer  ¨

Non-Accelerated Filer ¨  

   Smaller reporting company ¨

(Do not check if a smaller reporting company)

  

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

As of July 31, 2013, there were 1,958,539,144 shares of the Registrant’s Common Stock, par value $0.01 per share, outstanding.


Table of Contents

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QUARTERLY REPORT ON FORM 10-Q

For the quarter ended June 30, 2013

 

Table of Contents    Page  

Part I—Financial Information

  

Item 1.

  Financial Statements (unaudited)      1   
 

Condensed Consolidated Statements of Financial Condition—June 30, 2013 and December 31, 2012

     1   
 

Condensed Consolidated Statements of Income—Three and Six Months Ended June 30, 2013 and 2012

     2   
 

Condensed Consolidated Statements of Comprehensive Income—Three and Six Months Ended June 30, 2013 and 2012

     3   
 

Condensed Consolidated Statements of Cash Flows—Six Months Ended June 30, 2013 and 2012

     4   
 

Condensed Consolidated Statements of Changes in Total Equity—Six Months Ended June  30, 2013 and 2012

     5   
 

Notes to Condensed Consolidated Financial Statements (unaudited)

     7   
 

Report of Independent Registered Public Accounting Firm

     99   

Item 2.

  Management’s Discussion and Analysis of Financial Condition and Results of Operations      100   
 

Introduction

     100   
 

Executive Summary

     101   
 

Business Segments

     111   
 

Accounting Developments

     128   
 

Other Matters

     130   
 

Critical Accounting Policies

     132   
 

Liquidity and Capital Resources

     136   

Item 3.

  Quantitative and Qualitative Disclosures about Market Risk      152   

Item 4.

  Controls and Procedures      167   

Financial Data Supplement (unaudited)

     168   

Part II—Other Information

  

Item 1.

  Legal Proceedings      174   

Item 2.

  Unregistered Sales of Equity Securities and Use of Proceeds      178   

Item 6.

  Exhibits      178   

 

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Table of Contents

AVAILABLE INFORMATION

Morgan Stanley files annual, quarterly and current reports, proxy statements and other information with the U.S. Securities and Exchange Commission (the “SEC”). You may read and copy any document we file with the SEC at the SEC’s public reference room at 100 F Street, NE, Washington, DC 20549. Please call the SEC at 1-800-SEC-0330 for information on the public reference room. The SEC maintains an internet site that contains annual, quarterly and current reports, proxy and information statements and other information that issuers (including Morgan Stanley) file electronically with the SEC. Morgan Stanley’s electronic SEC filings are available to the public at the SEC’s internet site, www.sec.gov.

Morgan Stanley’s internet site is www.morganstanley.com. You can access Morgan Stanley’s Investor Relations webpage at www.morganstanley.com/about/ir. Morgan Stanley makes available free of charge, on or through its Investor Relations webpage, its proxy statements, Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and any amendments to those reports filed or furnished pursuant to the Securities Exchange Act of 1934, as amended (the “Exchange Act”), as soon as reasonably practicable after such material is electronically filed with, or furnished to, the SEC. Morgan Stanley also makes available, through its Investor Relations webpage, via a link to the SEC’s internet site, statements of beneficial ownership of Morgan Stanley’s equity securities filed by its directors, officers, 10% or greater shareholders and others under Section 16 of the Exchange Act.

Morgan Stanley has a Corporate Governance webpage. You can access information about Morgan Stanley’s corporate governance at www.morganstanley.com/about/company/governance. Morgan Stanley posts the following on its Corporate Governance webpage:

 

   

Amended and Restated Certificate of Incorporation;

 

   

Amended and Restated Bylaws;

 

   

Charters for its Audit Committee; Operations and Technology Committee; Compensation, Management Development and Succession Committee; Nominating and Governance Committee; and Risk Committee;

 

   

Corporate Governance Policies;

 

   

Policy Regarding Communication with the Board of Directors;

 

   

Policy Regarding Director Candidates Recommended by Shareholders;

 

   

Policy Regarding Corporate Political Contributions;

 

   

Policy Regarding Shareholder Rights Plan;

 

   

Code of Ethics and Business Conduct;

 

   

Code of Conduct; and

 

   

Integrity Hotline information.

Morgan Stanley’s Code of Ethics and Business Conduct applies to all directors, officers and employees, including its Chief Executive Officer, Chief Financial Officer and Deputy Chief Financial Officer. Morgan Stanley will post any amendments to the Code of Ethics and Business Conduct and any waivers that are required to be disclosed by the rules of either the SEC or the New York Stock Exchange LLC (“NYSE”) on its internet site. You can request a copy of these documents, excluding exhibits, at no cost, by contacting Investor Relations, 1585 Broadway, New York, NY 10036 (212-761-4000). The information on Morgan Stanley’s internet site is not incorporated by reference into this report.

 

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Table of Contents

Part I—Financial Information.

 

Item 1. Financial Statements.

MORGAN STANLEY

Condensed Consolidated Statements of Financial Condition

(dollars in millions, except share data)

(unaudited)

 

    June 30,
2013
    December 31,
2012
 

Assets

   

Cash and due from banks ($380 and $526 at June 30, 2013 and December 31, 2012, respectively, related to consolidated variable interest entities generally not available to the Company)

  $ 16,295      $ 20,878   

Interest bearing deposits with banks

    30,904        26,026   

Cash deposited with clearing organizations or segregated under federal and other regulations or requirements

    35,363        30,970   

Trading assets, at fair value (approximately $145,191 and $147,348 were pledged to various parties at June 30, 2013 and December 31, 2012, respectively; $3,128 and $3,505 related to consolidated variable interest entities, generally not available to the Company at June 30, 2013 and December 31, 2012, respectively)

    260,038        267,603   

Securities available for sale, at fair value

    42,858        39,869   

Securities received as collateral, at fair value

    14,749        14,278   

Federal funds sold and securities purchased under agreements to resell (includes $869 and $621 at fair value at June 30, 2013 and December 31, 2012, respectively)

    142,494        134,412   

Securities borrowed

    129,114        121,701   

Customer and other receivables

    64,473        64,288   

Loans (net of allowances of $125 and $106 at June 30, 2013 and December 31, 2012, respectively)

    34,571        29,046   

Other investments

    4,869        4,999   

Premises, equipment and software costs (net of accumulated depreciation of $5,987 and $5,525 at June 30, 2013 and December 31, 2012, respectively) ($215 and $224 at June 30, 2013 and December 31, 2012, respectively, related to consolidated variable interest entities, generally not available to the Company)

    5,966        5,946   

Goodwill

    6,600        6,650   

Intangible assets (net of accumulated amortization of $1,420 and $1,250 at June 30, 2013 and December 31, 2012, respectively) (includes $9 and $7 at fair value at June 30, 2013 and December 31, 2012, respectively)

    3,602        3,783   

Other assets ($547 and $593 at June 30, 2013 and December 31, 2012, respectively, related to consolidated variable interest entities, generally not available to the Company)

    10,795        10,511   
 

 

 

   

 

 

 

Total assets

  $ 802,691      $ 780,960   
 

 

 

   

 

 

 

Liabilities

   

Deposits (includes $1,425 and $1,485 at fair value at June 30, 2013 and December 31, 2012, respectively)

  $ 81,514      $ 83,266   

Commercial paper and other short-term borrowings (includes $1,590 and $725 at fair value at June 30, 2013 and December 31, 2012, respectively)

    2,366        2,138   

Trading liabilities, at fair value

    128,085        120,122   

Obligation to return securities received as collateral, at fair value

    19,154        18,226   

Securities sold under agreements to repurchase (includes $552 and $363 at fair value at June 30, 2013 and December 31, 2012, respectively)

    133,582        122,674   

Securities loaned

    36,135        36,849   

Other secured financings (includes $6,452 and $9,466 at fair value at June 30, 2013 and December 31, 2012, respectively) ($610 and $976 at June 30, 2013 and December 31, 2012, respectively, related to consolidated variable entities and are non-recourse to the Company)

    13,671        15,727   

Customer and other payables

    145,555        127,722   

Other liabilities and accrued expenses ($117 at both June 30, 2013 and December 31, 2012, related to consolidated variable interest entities and are non-recourse to the Company)

    15,417        14,928   

Long-term borrowings (includes $40,819 and $44,044 at fair value at June 30, 2013 and December 31, 2012, respectively)

    161,098        169,571   
 

 

 

   

 

 

 
    736,577        711,223   
 

 

 

   

 

 

 

Commitments and contingent liabilities (see Note 12)

   

Redeemable noncontrolling interests (see Notes 3 and 14)

    —          4,309   

Equity

   

Morgan Stanley shareholders’ equity:

   

Preferred stock

    1,508        1,508   

Common stock, $0.01 par value:

   

Shares authorized: 3,500,000,000 at June 30, 2013 and December 31, 2012;

   

Shares issued: 2,038,893,979 at June 30, 2013 and 2,038,893,979 at December 31, 2012;

   

Shares outstanding: 1,959,326,270 at June 30, 2013 and 1,974,042,123 at December 31, 2012

    20        20   

Additional Paid-in capital

    23,933        23,426   

Retained earnings

    41,455        39,912   

Employee stock trust

    1,821        2,932   

Accumulated other comprehensive loss

    (1,169     (516

Common stock held in treasury, at cost, $0.01 par value; 79,567,709 shares at June 30, 2013 and 64,851,856 shares at December 31, 2012

    (2,566     (2,241

Common stock issued to employee trust

    (1,821     (2,932
 

 

 

   

 

 

 

Total Morgan Stanley shareholders’ equity

    63,181        62,109   

Nonredeemable noncontrolling interests

    2,933        3,319   
 

 

 

   

 

 

 

Total equity

    66,114        65,428   
 

 

 

   

 

 

 

Total liabilities, redeemable noncontrolling interests and equity

  $ 802,691      $ 780,960   
 

 

 

   

 

 

 

 

See Notes to Condensed Consolidated Financial Statements.

 

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Table of Contents

MORGAN STANLEY

Condensed Consolidated Statements of Income

(dollars in millions, except share and per share data)

(unaudited)

 

    Three Months Ended
June 30,
    Six Months Ended
June 30,
 
    2013     2012     2013     2012  

Revenues:

       

Investment banking

  $ 1,303      $ 1,104      $ 2,527      $ 2,167   

Trading

    2,894        2,469        5,588        4,871   

Investments

    188        63        526        148   

Commissions and fees

    1,217        1,040        2,385        2,217   

Asset management, distribution and administration fees

    2,404        2,268        4,750        4,420   

Other

    293        158        496        262   
 

 

 

   

 

 

   

 

 

   

 

 

 

Total non-interest revenues

    8,299        7,102        16,272        14,085   
 

 

 

   

 

 

   

 

 

   

 

 

 

Interest income

    1,422        1,323        2,820        2,865   

Interest expense

    1,218        1,483        2,431        3,084   
 

 

 

   

 

 

   

 

 

   

 

 

 

Net interest

    204        (160     389        (219
 

 

 

   

 

 

   

 

 

   

 

 

 

Net revenues

    8,503        6,942        16,661        13,866   
 

 

 

   

 

 

   

 

 

   

 

 

 

Non-interest expenses:

       

Compensation and benefits

    4,105        3,631        8,321        8,061   

Occupancy and equipment

    377        378        756        766   

Brokerage, clearing and exchange fees

    456        405        884        808   

Information processing and communications

    470        487        918        946   

Marketing and business development

    163        155        297        301   

Professional services

    458        477        898        889   

Other

    699        472        1,230        956   
 

 

 

   

 

 

   

 

 

   

 

 

 

Total non-interest expenses

    6,728        6,005        13,304        12,727   
 

 

 

   

 

 

   

 

 

   

 

 

 

Income from continuing operations before income taxes

    1,775        937        3,357        1,139   

Provision for income taxes

    555        224        887        278   
 

 

 

   

 

 

   

 

 

   

 

 

 

Income from continuing operations

    1,220        713        2,470        861   
 

 

 

   

 

 

   

 

 

   

 

 

 

Discontinued operations:

       

Gain (loss) from discontinued operations

    (42     52        (71     80   

Provision for (benefit from) income taxes

    (13     15        (23     57   
 

 

 

   

 

 

   

 

 

   

 

 

 

Net gain (loss) from discontinued operations

    (29     37        (48     23   
 

 

 

   

 

 

   

 

 

   

 

 

 

Net income

  $ 1,191      $ 750      $ 2,422      $ 884   

Net income applicable to redeemable noncontrolling interests

    100        —          222        —     

Net income applicable to non redeemable noncontrolling interests

    111        159        258        387   
 

 

 

   

 

 

   

 

 

   

 

 

 

Net income applicable to Morgan Stanley

  $ 980      $ 591      $ 1,942      $ 497   
 

 

 

   

 

 

   

 

 

   

 

 

 

Earnings applicable to Morgan Stanley common shareholders

  $ 803      $ 564      $ 1,739      $ 446   
 

 

 

   

 

 

   

 

 

   

 

 

 

Amounts applicable to Morgan Stanley:

       

Income from continuing operations

  $ 1,009      $ 562      $ 1,990      $ 483   

Net gain (loss) from discontinued operations

    (29     29        (48     14   
 

 

 

   

 

 

   

 

 

   

 

 

 

Net income applicable to Morgan Stanley

  $ 980      $ 591      $ 1,942      $ 497   
 

 

 

   

 

 

   

 

 

   

 

 

 

Earnings per basic common share:

       

Income from continuing operations

  $ 0.44      $ 0.28      $ 0.94      $ 0.23   

Net gain (loss) from discontinued operations

    (0.02     0.02        (0.03     0.01   
 

 

 

   

 

 

   

 

 

   

 

 

 

Earnings per basic common share

  $ 0.42      $ 0.30      $ 0.91      $ 0.24   
 

 

 

   

 

 

   

 

 

   

 

 

 

Earnings per diluted common share:

       

Income from continuing operations

  $ 0.43      $ 0.28      $ 0.92      $ 0.23   

Net gain (loss) from discontinued operations

    (0.02     0.01        (0.03     —     
 

 

 

   

 

 

   

 

 

   

 

 

 

Earnings per diluted common share

  $ 0.41      $ 0.29      $ 0.89      $ 0.23   
 

 

 

   

 

 

   

 

 

   

 

 

 

Dividends declared per common share

  $ 0.05      $ 0.05      $ 0.10      $ 0.10   

Average common shares outstanding:

       

Basic

    1,907,737,175        1,885,179,182        1,904,470,952        1,881,070,509   
 

 

 

   

 

 

   

 

 

   

 

 

 

Diluted

    1,951,362,736        1,911,709,377        1,945,813,411        1,907,107,639   
 

 

 

   

 

 

   

 

 

   

 

 

 

See Notes to Condensed Consolidated Financial Statements.

 

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Table of Contents

MORGAN STANLEY

Condensed Consolidated Statements of Comprehensive Income

(dollars in millions)

(unaudited)

 

     Three Months Ended
June 30,
    Six Months Ended
June 30,
 
         2013             2012             2013             2012      

Net income

   $ 1,191      $ 750      $ 2,422      $ 884   

Other comprehensive income (loss), net of tax:

        

Foreign currency translation adjustments(1)

   $ (201   $ (151   $ (446   $ (131

Amortization of cash flow hedges(2)

     1        1        2        3   

Change in net unrealized losses on securities available for sale(3)

     (342     41        (369     22   

Pension, postretirement and other related adjustments(4)

     10        17        11        19   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total other comprehensive loss

   $ (532   $ (92   $ (802   $ (87
  

 

 

   

 

 

   

 

 

   

 

 

 

Comprehensive income

   $ 659      $ 658      $ 1,620      $ 797   

Net income applicable to redeemable noncontrolling interests

     100        —          222        —     

Net income applicable to non redeemable noncontrolling interests

     111        159        258        387   

Other comprehensive income applicable to redeemable noncontrolling interests

     —          —          —          —     

Other comprehensive income (loss) applicable to nonredeemable noncontrolling interests

     (57     68        (149     (24
  

 

 

   

 

 

   

 

 

   

 

 

 

Comprehensive income applicable to Morgan Stanley

   $ 505      $ 431      $ 1,289      $ 434   
  

 

 

   

 

 

   

 

 

   

 

 

 

 

(1) Amounts are net of provision for income taxes of $135 million and $172 million for the quarters ended June 30, 2013 and 2012, respectively, and $300 million and $176 million for the six months ended June 30, 2013 and 2012, respectively.
(2) Amounts are net of provision for income taxes of $1 million and $1 million for the quarters ended June 30, 2013 and 2012, respectively, and $2 million and $2 million for the six months ended June 30, 2013 and 2012, respectively.
(3) Amounts are net of provision for (benefit from) income taxes of $(234) million and $30 million for the quarters ended June 30, 2013 and 2012, respectively, and $(253) million and $17 million for the six months ended June 30, 2013 and 2012, respectively.
(4) Amounts are net of provision for income taxes of $6 million and $8 million for the quarters ended June 30, 2013 and 2012, respectively, and $11 million and $10 million for the six months ended June 30, 2013 and 2012, respectively.

See Notes to Condensed Consolidated Financial Statements.

 

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Table of Contents

MORGAN STANLEY

Condensed Consolidated Statements of Cash Flows

(dollars in millions)

(unaudited)

 

    Six Months Ended
June 30,
 
    2013     2012  

CASH FLOWS FROM OPERATING ACTIVITIES

   

Net income

  $ 2,422      $ 884   

Adjustments to reconcile net income to net cash provided by operating activities:

   

(Income) loss on equity method investees

    (191     20   

Compensation payable in common stock and options

    559        618   

Depreciation and amortization

    716        793   

Gain on business dispositions

    (30     (108

Gain on sale of securities available for sale

    (38     (23

Impairment charges

    112        33   

Provision for credit losses on lending activities

    63        62   

Other non-cash adjustments to net income

    13        (6

Changes in assets and liabilities:

   

Cash deposited with clearing organizations or segregated under federal and other regulations or requirements

    (4,393     36   

Trading assets, net of Trading liabilities

    12,075        38,656   

Securities borrowed

    (7,413     (7,189

Securities loaned

    (714     300   

Customer and other receivables and other assets

    (883     (10,972

Customer and other payables and other liabilities

    13,278        5,310   

Federal funds sold and securities purchased under agreements to resell

    (8,082     (17,833

Securities sold under agreements to repurchase

    10,908        6,885   
 

 

 

   

 

 

 

Net cash provided by operating activities

    18,402        17,466   
 

 

 

   

 

 

 

CASH FLOWS FROM INVESTING ACTIVITIES

   

Proceeds from (payments for):

   

Premises, equipment and software costs

    (583     (436

Business dispositions, net of cash disposed

    530        1,536   

Loans, net

    (3,441     (1,670

Purchases of securities available for sale

    (14,335     (6,418

Sales, maturities and redemptions of securities available for sale

    11,040        5,439   

Other investing activities

    186        70   
 

 

 

   

 

 

 

Net cash used for investing activities

    (6,603     (1,479
 

 

 

   

 

 

 

CASH FLOWS FROM FINANCING ACTIVITIES

   

Net proceeds from (payments for):

   

Commercial paper and other short-term borrowings

    228        (855

Noncontrolling interests

    (540     (178

Other secured financings

    (1,761     (4,822

Deposits

    (1,752     2,590   

Proceeds from:

   

Excess tax benefits associated with stock-based awards

    13        42   

Derivatives financing activities

    459        241   

Issuance of long-term borrowings

    21,698        9,422   

Payments for:

   

Long-term borrowings

    (22,958     (26,445

Derivatives financing activities

    (498     (113

Repurchases of common stock for employee tax withholding

    (314     (191

Purchase of additional stake in Morgan Stanley Smith Barney Holdings LLC

    (4,725     —     

Cash dividends

    (239     (230
 

 

 

   

 

 

 

Net cash used for financing activities

    (10,389     (20,539
 

 

 

   

 

 

 

Effect of exchange rate changes on cash and cash equivalents

    (735     (307
 

 

 

   

 

 

 

Effect of cash and cash equivalents related to variable interest entities

    (380     (447
 

 

 

   

 

 

 

Net increase (decrease) in cash and cash equivalents

    295        (5,306

Cash and cash equivalents, at beginning of period

    46,904        47,312   
 

 

 

   

 

 

 

Cash and cash equivalents, at end of period

  $ 47,199      $ 42,006   
 

 

 

   

 

 

 

Cash and cash equivalents include:

   

Cash and due from banks

  $ 16,295      $ 12,408   

Interest bearing deposits with banks

    30,904        29,598   
 

 

 

   

 

 

 

Cash and cash equivalents, at end of period

  $ 47,199      $ 42,006   
 

 

 

   

 

 

 

SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION

Cash payments for interest were $2,177 million and $2,404 million for the six months ended June 30, 2013 and 2012, respectively.

Cash payments for income taxes were $537 million and $220 million for the six months ended June 30, 2013 and 2012, respectively.

See Notes to Condensed Consolidated Financial Statements.

 

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MORGAN STANLEY

Condensed Consolidated Statements of Changes in Total Equity

Six Months Ended June 30, 2013

(dollars in millions)

(unaudited)

 

    Preferred
Stock
    Common
Stock
    Additional
Paid-in
Capital
    Retained
Earnings
    Employee
Stock
Trust
    Accumulated
Other
Comprehensive
Income (Loss)
    Common
Stock
Held in
Treasury
at Cost
    Common
Stock
Issued to
Employee
Trust
    Non-
redeemable
Non-
controlling
Interests
    Total
Equity
 

BALANCE AT DECEMBER 31, 2012

  $ 1,508      $ 20      $ 23,426      $ 39,912      $ 2,932      $ (516   $ (2,241   $ (2,932   $ 3,319      $ 65,428   

Net income applicable to Morgan Stanley

    —          —          —          1,942        —          —          —          —          —          1,942   

Net income applicable to nonredeemable noncontrolling interests

    —          —          —          —          —          —          —          —          258        258   

Dividends

    —          —          —          (248     —          —          —          —          —          (248

Shares issued under employee plans and related tax effects

    —          —          507        —          (1,111     —          (11     1,111        —          496   

Repurchases of common stock

    —          —          —          —          —          —          (314     —          —          (314

Foreign currency translation adjustments

    —          —          —          —          —          (297     —          —          (149     (446

Net change in cash flow hedges

    —          —          —          —          —          2        —          —          —          2   

Change in net unrealized losses on securities available for sale

    —          —          —          —          —          (369     —          —          —          (369

Pension, postretirement and other related adjustments

    —          —          —          —          —          11        —          —          —          11   

Morgan Stanley Smith Barney Holdings LLC redemption value adjustment

    —          —          —          (151     —          —          —          —          —          (151

Other net decreases

    —          —          —          —          —          —          —          —          (495     (495
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

BALANCE AT JUNE 30, 2013

  $ 1,508      $ 20      $ 23,933      $ 41,455      $ 1,821      $ (1,169   $ (2,566   $ (1,821   $ 2,933      $ 66,114   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

See Notes to Condensed Consolidated Financial Statements.

 

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MORGAN STANLEY

Condensed Consolidated Statements of Changes in Total Equity—(Continued)

Six Months Ended June 30, 2012

(dollars in millions)

(unaudited)

 

 

    Preferred
Stock
    Common
Stock
    Additional
Paid-in
Capital
    Retained
Earnings
    Employee
Stock
Trust
    Accumulated
Other
Comprehensive
Income (Loss)
    Common
Stock
Held in
Treasury
at Cost
    Common
Stock
Issued to
Employee
Trust
    Non-
Redeemable
Non-
controlling
Interests
    Total
Equity
 

BALANCE AT DECEMBER 31, 2011

  $ 1,508      $ 20      $ 22,836      $ 40,341      $ 3,166      $ (157   $ (2,499   $ (3,166   $ 8,029      $ 70,078   

Net income applicable to Morgan Stanley

    —          —          —          497        —          —          —          —          —          497   

Net income applicable to nonredeemable noncontrolling interests

    —          —          —          —          —          —          —          —          387        387   

Dividends

    —          —          —          (252     —          —          —          —          —          (252

Shares issued under employee plans and related tax effects

    —          —          315        —          32        —          486        (32     —          801   

Repurchases of common stock

    —          —          —          —          —          —          (191     —          —          (191

Foreign currency translation adjustments

    —          —          —          —          —          (102     —          —          (29     (131

Net change in cash flow hedges

    —          —          —          —          —          3        —          —          —          3   

Change in net unrealized gains on securities available for sale

    —          —          —          —          —          22        —          —          —          22   

Pension, postretirement and other related adjustments

    —          —          —          —          —          14        —          —          5        19   

Other net increases

    —          —          —          —          —          —          —          —          404        404   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

BALANCE AT JUNE 30, 2012

  $ 1,508      $ 20      $ 23,151      $ 40,586      $ 3,198      $ (220   $ (2,204   $ (3,198   $ 8,796      $ 71,637   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

See Notes to Condensed Consolidated Financial Statements.

 

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MORGAN STANLEY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

1. Introduction and Basis of Presentation.

The Company.    Morgan Stanley, a financial holding company, is a global financial services firm that maintains significant market positions in each of its business segments—Institutional Securities, Wealth Management and Investment Management. The Company, through its subsidiaries and affiliates, provides a wide variety of products and services to a large and diversified group of clients and customers, including corporations, governments, financial institutions and individuals. Unless the context otherwise requires, the terms “Morgan Stanley” or the “Company” mean Morgan Stanley (the “Parent”) together with its consolidated subsidiaries.

Effective with the quarter ended June 30, 2013, the Global Wealth Management Group and Asset Management business segments were re-titled Wealth Management and Investment Management, respectively.

A summary of the activities of each of the Company’s business segments is as follows:

Institutional Securities provides financial advisory and capital raising services, including advice on mergers and acquisitions, restructurings, real estate and project finance; corporate lending; sales, trading, financing and market-making activities in equity and fixed income securities and related products, including foreign exchange and commodities; and investment activities.

Wealth Management (formerly known as Global Wealth Management Group), provides brokerage and investment advisory services to individual investors and small-to-medium sized businesses and institutions covering various investment alternatives; financial and wealth planning services; annuity and other insurance products; credit and other lending products; cash management services; retirement services; and trust and fiduciary services and engages in fixed income trading, which primarily facilitates clients’ trading or investments in such securities.

Investment Management (formerly known as Asset Management) provides a broad array of investment strategies that span the risk/return spectrum across geographies, asset classes and public and private markets to a diverse group of clients across the institutional and intermediary channels as well as high net worth clients.

Discontinued Operations.

Quilter.    On April 2, 2012, the Company completed the sale of Quilter & Co. Ltd. (“Quilter”), its retail wealth management business in the United Kingdom (“U.K.”). The results of Quilter are reported as discontinued operations within the Wealth Management business segment for all periods presented.

Saxon.    On October 24, 2011, the Company announced that it had reached an agreement to sell Saxon, a provider of servicing and subservicing of residential mortgage loans, to Ocwen Financial Corporation. The transaction, which was restructured as a sale of Saxon’s assets during the first quarter of 2012, was substantially completed in the second quarter of 2012. The results of Saxon are reported as discontinued operations within the Institutional Securities business segment for all periods presented.

Prior period amounts have been recast for discontinued operations. See Note 21 for additional information on discontinued operations.

Basis of Financial Information.    The condensed consolidated financial statements are prepared in accordance with accounting principles generally accepted in the United States of America (“U.S.”), which require the Company to make estimates and assumptions regarding the valuations of certain financial instruments, the valuation of goodwill and intangible assets, compensation, deferred tax assets, the outcome of litigation and tax matters, and other matters that affect the condensed consolidated financial statements and related disclosures. The Company believes that the estimates utilized in the preparation of the condensed consolidated financial statements are prudent and reasonable. Actual results could differ materially from these estimates.

 

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MORGAN STANLEY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

Intercompany balances and transactions have been eliminated.

In the quarter ended March 31, 2013, the Company renamed “Principal transactions—Trading” revenues as “Trading” revenues and “Principal transactions—Investments” revenues as “Investments” revenues in the condensed consolidated statements of income, and “Financial instruments owned” as “Trading assets,” “Financial instruments sold, not yet purchased” as “Trading liabilities,” “Receivables” as “Customer and other receivables” and “Payables” as “Customer and other payables” in the condensed consolidated statements of financial condition.

The condensed consolidated financial statements should be read in conjunction with the Company’s consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2012 (the “Form 10-K”). The condensed consolidated financial statements reflect all adjustments of a normal recurring nature that are, in the opinion of management, necessary for the fair presentation of the results for the interim period. The results of operations for interim periods are not necessarily indicative of results for the entire year.

Consolidation.    The condensed consolidated financial statements include the accounts of the Company, its wholly owned subsidiaries and other entities in which the Company has a controlling financial interest, including certain variable interest entities (“VIE”) (see Note 7). For consolidated subsidiaries that are less than wholly owned, the third-party holdings of equity interests are referred to as noncontrolling interests. The portion of net income attributable to noncontrolling interests for such subsidiaries is presented as either Net income (loss) applicable to redeemable noncontrolling interests or Net income (loss) applicable to nonredeemable noncontrolling interests in the condensed consolidated statements of income. The portion of the shareholders’ equity of such subsidiaries that is redeemable is presented as Redeemable noncontrolling interests outside of the equity section in the condensed consolidated statements of financial condition. The portion of the shareholders’ equity of such subsidiaries that is nonredeemable is presented as Nonredeemable noncontrolling interests, a component of total equity, in the condensed consolidated statements of financial condition.

For entities where (1) the total equity investment at risk is sufficient to enable the entity to finance its activities without additional support and (2) the equity holders bear the economic residual risks and returns of the entity and have the power to direct the activities of the entity that most significantly affect its economic performance, the Company consolidates those entities it controls either through a majority voting interest or otherwise. For VIEs (i.e., entities that do not meet these criteria), the Company consolidates those entities where the Company has the power to make the decisions that most significantly affect the economic performance of the VIE and has the obligation to absorb losses or the right to receive benefits that could potentially be significant to the VIE, except for certain VIEs that are money market funds, investment companies or are entities qualifying for accounting purposes as investment companies. Generally, the Company consolidates those entities when it absorbs a majority of the expected losses or a majority of the expected residual returns, or both, of the entities.

For investments in entities in which the Company does not have a controlling financial interest but has significant influence over operating and financial decisions, the Company generally applies the equity method of accounting with net gains and losses recorded within Other revenues. Where the Company has elected to measure certain eligible investments at fair value in accordance with the fair value option, net gains and losses are recorded within Investments revenues (see Note 4).

Equity and partnership interests held by entities qualifying for accounting purposes as investment companies are carried at fair value.

The Company’s significant regulated U.S. and international subsidiaries include Morgan Stanley & Co. LLC (“MS&Co.”), Morgan Stanley Smith Barney LLC (“MSSB LLC”), Morgan Stanley & Co. International plc

 

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MORGAN STANLEY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

(“MSIP”), Morgan Stanley MUFG Securities Co., Ltd. (“MSMS”), Morgan Stanley Bank, N.A. (“MSBNA”) and Morgan Stanley Private Bank, National Association (“MSPBNA”).

Income Statement Presentation.    The Company, through its subsidiaries and affiliates, provides a wide variety of products and services to a large and diversified group of clients and customers, including corporations, governments, financial institutions and individuals. In connection with the delivery of the various products and services to clients, the Company manages its revenues and related expenses in the aggregate. As such, when assessing the performance of its businesses, primarily in its Institutional Securities business segment, the Company considers its trading, investment banking, commissions and fees and interest income, along with the associated interest expense, as one integrated activity.

 

2. Significant Accounting Policies.

For a detailed discussion about the Company’s significant accounting policies, see Note 2 to the consolidated financial statements for the year ended December 31, 2012 included in the Form 10-K.

During the six months ended June 30, 2013, no updates were made to the Company’s significant accounting policies.

Condensed Consolidated Statements of Cash Flows.

For purposes of the condensed consolidated statements of cash flows, cash and cash equivalents consist of Cash and due from banks and Interest bearing deposits with banks, which are highly liquid investments with original maturities of three months or less, held for investment purposes, and readily convertible to known amounts of cash.

In the six months ended June 30, 2012, the Company’s significant non-cash activities included approximately $0.6 billion of net assets received from Citigroup, Inc. (“Citi”) related to Citi’s required equity contribution in connection with the Morgan Stanley Smith Barney Holdings LLC (“Wealth Management JV”) platform integration (see Notes 3 and 14).

During the third quarter of 2012, the Company identified that activities related to certain loans had been reported as cash flows from operating activities that should have been presented as investing activities. The Company corrected the previously presented cash flows for these loans and in doing so, the condensed consolidated statements of cash flows for the six months ended June 30, 2012 has been adjusted to increase net cash flows from operating activities by $1.7 billion, with the corresponding decrease in net cash flows from investing activities. The Company has evaluated the effect of the incorrect presentation, both qualitatively and quantitatively, and concluded that it did not have a material impact on, nor require amendment of, any previously filed annual or quarterly consolidated financial statements.

Accounting Developments.

Disclosures about Offsetting Assets and Liabilities.    In January 2013, the Financial Accounting Standards Board (the “FASB”) issued an accounting update that clarified the intended scope of the new balance sheet offsetting disclosures to derivatives, repurchase agreements, and securities lending transactions to the extent that they are either offset in the financial statements or subject to an enforceable master netting arrangement or similar agreement. These disclosure requirements became effective for the Company beginning on January 1, 2013. Since these amended principles require only additional disclosures concerning offsetting and related arrangements, adoption has not affected the Company’s condensed consolidated statements of income or financial condition (see Notes 6 and 11).

 

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MORGAN STANLEY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income.    In February 2013, the FASB issued an accounting update that created new disclosure requirements requiring entities to report the effect of significant reclassifications out of accumulated other comprehensive income on the respective line items in net income if the amount being reclassified is required under U.S. generally accepted accounting principles (“GAAP”) to be reclassified in its entirety to net income. The disclosure requirements became effective for the Company beginning on January 1, 2013. Since these amended principles require only additional disclosures concerning amounts reclassified out of accumulated other comprehensive income, adoption has not affected the Company’s condensed consolidated statements of comprehensive income or notes to the condensed consolidated financial statements (see Note 14).

 

3. Morgan Stanley Smith Barney Holdings LLC.

On May 31, 2009, the Company and Citi consummated the combination of each institution’s respective wealth management business. The combined businesses operated as the Wealth Management JV through June 28, 2013.

Prior to September 2012, the Company owned 51% and Citi owned 49% of the Wealth Management JV. On September 17, 2012, the Company purchased an additional 14% stake in the Wealth Management JV from Citi for $1.89 billion, increasing the Company’s interest from 51% to 65%. In addition, in September 2012, the terms of the Wealth Management JV agreement regarding the purchase of the remaining 35% interest were amended, which resulted in a reclassification of approximately $4.3 billion from nonredeemable noncontrolling interests to redeemable noncontrolling interests during the third quarter of 2012. Prior to September 17, 2012, Citi’s results related to its 49% interest were reported in net income (loss) applicable to nonredeemable noncontrolling interests in the condensed consolidated statements of income. Subsequent to the purchase of the additional 14% stake, Citi’s results related to the 35% interest were reported in net income (loss) applicable to redeemable noncontrolling interests in the condensed consolidated statements of income. In connection with the Company’s acquisition of the additional 14% stake in the Wealth Management JV and pursuant to an amended deposit sweep agreement between Citi and the Company, in October 2012 $5.4 billion of deposits held by Citi relating to customer accounts were transferred to the Company’s depository institutions at no premium based on a valuation agreement reached between Citi and the Company, and as such were no longer swept to Citi.

In June 2013, the Company received all regulatory approvals to acquire the remaining 35% stake in the Wealth Management JV. On June 28, 2013, the Company purchased the remaining 35% interest for $4.725 billion, increasing the Company’s interest from 65% to 100%. The Company recorded a negative adjustment to retained earnings of approximately $151 million (net of tax) to reflect the difference between the purchase price for the 35% interest in the Wealth Management JV and its carrying value. This adjustment negatively impacted the calculation of basic and diluted earnings per share for the quarter and six months ended June 30, 2013 (see Note 15). Concurrent with the acquisition of the remaining 35% stake in the Wealth Management JV, the deposit sweep agreement between Citi and the Company was terminated. As a result of the termination of the deposit sweep agreement, approximately $57 billion of deposits will no longer be swept to Citi but will instead be transferred to the Company’s depository institutions on an agreed upon basis over the next 24 months (i.e., through June 1, 2015) (see Note 22).

Additionally, in conjunction with the purchase of the remaining 35% interest, the Company redeemed all of the Class A Preferred Interests in the Wealth Management JV owned by Citi and its affiliates for approximately $2.028 billion and repaid to Citi $880 million in senior debt.

 

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MORGAN STANLEY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

4. Fair Value Disclosures.

Fair Value Measurements.

A description of the valuation techniques applied to the Company’s major categories of assets and liabilities measured at fair value on a recurring basis follows.

Trading Assets and Trading Liabilities.

U.S. Government and Agency Securities.

 

   

U.S. Treasury Securities.    U.S. Treasury securities are valued using quoted market prices. Valuation adjustments are not applied. Accordingly, U.S. Treasury securities are generally categorized in Level 1 of the fair value hierarchy.

 

   

U.S. Agency Securities.    U.S. agency securities are composed of three main categories consisting of agency-issued debt, agency mortgage pass-through pool securities and collateralized mortgage obligations. Non-callable agency-issued debt securities are generally valued using quoted market prices. Callable agency-issued debt securities are valued by benchmarking model-derived prices to quoted market prices and trade data for identical or comparable securities. The fair value of agency mortgage pass-through pool securities is model-driven based on spreads of the comparable To-be-announced (“TBA”) security. Collateralized mortgage obligations are valued using quoted market prices and trade data adjusted by subsequent changes in related indices for identical or comparable securities. Actively traded non-callable agency-issued debt securities are generally categorized in Level 1 of the fair value hierarchy. Callable agency-issued debt securities, agency mortgage pass-through pool securities and collateralized mortgage obligations are generally categorized in Level 2 of the fair value hierarchy.

Other Sovereign Government Obligations.

 

   

Foreign sovereign government obligations are valued using quoted prices in active markets when available. These bonds are generally categorized in Level 1 of the fair value hierarchy. If the market is less active or prices are dispersed, these bonds are categorized in Level 2 of the fair value hierarchy.

Corporate and Other Debt.

 

   

State and Municipal Securities.    The fair value of state and municipal securities is determined using recently executed transactions, market price quotations and pricing models that factor in, where applicable, interest rates, bond or credit default swap spreads and volatility. These bonds are generally categorized in Level 2 of the fair value hierarchy.

 

   

Residential Mortgage-Backed Securities (“RMBS”), Commercial Mortgage-Backed Securities (“CMBS”) and other Asset-Backed Securities (“ABS”).    RMBS, CMBS and other ABS may be valued based on price or spread data obtained from observed transactions or independent external parties such as vendors or brokers. When position-specific external price data are not observable, the fair value determination may require benchmarking to similar instruments and/or analyzing expected credit losses, default and recovery rates, and/or applying discounted cash flow techniques. In evaluating the fair value of each security, the Company considers security collateral-specific attributes, including payment priority, credit enhancement levels, type of collateral, delinquency rates and loss severity. In addition, for RMBS borrowers, Fair Isaac Corporation (“FICO”) scores and the level of documentation for the loan are also considered. Market standard models, such as Intex, Trepp or others, may be deployed to model the specific collateral composition and cash flow structure of each transaction. Key inputs to these models are market spreads, forecasted credit losses, default and prepayment rates for each asset category. Valuation

 

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MORGAN STANLEY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

 

levels of RMBS and CMBS indices are also used as an additional data point for benchmarking purposes or to price outright index positions.

RMBS, CMBS and other ABS are generally categorized in Level 2 of the fair value hierarchy. If external prices or significant spread inputs are unobservable or if the comparability assessment involves significant subjectivity related to property type differences, cash flows, performance and other inputs, then RMBS, CMBS and other ABS are categorized in Level 3 of the fair value hierarchy.

 

   

Corporate Bonds.    The fair value of corporate bonds is determined using recently executed transactions, market price quotations (where observable), bond spreads or credit default swap spreads obtained from independent external parties such as vendors and brokers adjusted for any basis difference between cash and derivative instruments. The spread data used are for the same maturity as the bond. If the spread data do not reference the issuer, then data that reference a comparable issuer are used. When position-specific external price data are not observable, fair value is determined based on either benchmarking to similar instruments or cash flow models with yield curves, bond or single-name credit default swap spreads and recovery rates as significant inputs. Corporate bonds are generally categorized in Level 2 of the fair value hierarchy; in instances where prices, spreads or any of the other aforementioned key inputs are unobservable, they are categorized in Level 3 of the fair value hierarchy.

 

   

Collateralized Debt Obligation (“CDO”).    The Company holds cash CDOs that typically reference a tranche of an underlying synthetic portfolio of single name credit default swaps collateralized by corporate bonds (“credit-linked notes”) or cash portfolio of asset-backed securities (“asset-backed CDOs”). Credit correlation, a primary input used to determine the fair value of credit-linked notes, is usually unobservable and derived using a benchmarking technique. The other credit-linked note model inputs such as credit spreads, including collateral spreads, and interest rates are typically observable. Asset-backed CDOs are valued based on an evaluation of the market and model input parameters sourced from similar positions as indicated by primary and secondary market activity. Each asset-backed CDO position is evaluated independently taking into consideration available comparable market levels, underlying collateral performance and pricing, and deal structures, as well as liquidity. Cash CDOs are categorized in Level 2 of the fair value hierarchy when either the credit correlation input is insignificant or comparable market transactions are observable. In instances where the credit correlation input is deemed to be significant or comparable market transactions are unobservable, cash CDOs are categorized in Level 3 of the fair value hierarchy.

 

   

Corporate Loans and Lending Commitments.    The fair value of corporate loans is determined using recently executed transactions, market price quotations (where observable), implied yields from comparable debt, and market observable credit default swap spread levels obtained from independent external parties such as vendors and brokers adjusted for any basis difference between cash and derivative instruments, along with proprietary valuation models and default recovery analysis where such transactions and quotations are unobservable. The fair value of contingent corporate lending commitments is determined by using executed transactions on comparable loans and the anticipated market price based on pricing indications from syndicate banks and customers. The valuation of loans and lending commitments also takes into account fee income that is considered an attribute of the contract. Corporate loans and lending commitments are categorized in Level 2 of the fair value hierarchy except in instances where prices or significant spread inputs are unobservable, in which case they are categorized in Level 3 of the fair value hierarchy.

 

   

Mortgage Loans.    Mortgage loans are valued using observable prices based on transactional data or third-party pricing for identical or comparable instruments, when available. Where position-specific external prices are not observable, the Company estimates fair value based on benchmarking to prices and rates observed in the primary market for similar loan or borrower types or based on the present value of

 

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MORGAN STANLEY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

 

expected future cash flows using its best estimates of the key assumptions, including forecasted credit losses, prepayment rates, forward yield curves and discount rates commensurate with the risks involved or a methodology that utilizes the capital structure and credit spreads of recent comparable securitization transactions. Mortgage loans valued based on observable market data for identical or comparable instruments are categorized in Level 2 of the fair value hierarchy. Where observable prices are not available, due to the subjectivity involved in the comparability assessment related to mortgage loan vintage, geographical concentration, prepayment speed and projected loss assumptions, mortgage loans are categorized in Level 3 of the fair value hierarchy. Mortgage loans are presented within Loans and lending commitments in the fair value hierarchy table.

 

   

Auction Rate Securities (“ARS”).    The Company primarily holds investments in Student Loan Auction Rate Securities (“SLARS”) and Municipal Auction Rate Securities (“MARS”) with interest rates that are reset through periodic auctions. SLARS are ABS backed by pools of student loans. MARS are municipal bonds often wrapped by municipal bond insurance. ARS were historically traded and valued as floating rate notes, priced at par due to the auction mechanism. Beginning in fiscal 2008, uncertainties in the credit markets have resulted in auctions failing for certain types of ARS. Once the auctions failed, ARS could no longer be valued using observations of auction market prices. Accordingly, the fair value of ARS is determined using independent external market data where available and an internally developed methodology to discount for the lack of liquidity and non-performance risk.

Inputs that impact the valuation of SLARS are independent external market data, the underlying collateral types, level of seniority in the capital structure, amount of leverage in each structure, credit rating and liquidity considerations. Inputs that impact the valuation of MARS are recently executed transactions, the maximum rate, quality of underlying issuers/insurers and evidence of issuer calls/prepayment. ARS are generally categorized in Level 2 of the fair value hierarchy as the valuation technique relies on observable external data. SLARS and MARS are presented within Asset-backed securities and State and municipal securities, respectively, in the fair value hierarchy table.

Corporate Equities.

 

   

Exchange-Traded Equity Securities.    Exchange-traded equity securities are generally valued based on quoted prices from the exchange. To the extent these securities are actively traded, valuation adjustments are not applied, and they are categorized in Level 1 of the fair value hierarchy; otherwise, they are categorized in Level 2 or Level 3 of the fair value hierarchy.

 

   

Unlisted Equity Securities.    Unlisted equity securities are valued based on an assessment of each underlying security, considering rounds of financing and third-party transactions, discounted cash flow analyses and market-based information, including comparable company transactions, trading multiples and changes in market outlook, among other factors. These securities are generally categorized in Level 3 of the fair value hierarchy.

 

   

Fund Units.    Listed fund units are generally marked to the exchange-traded price or net asset value (“NAV”) and are categorized in Level 1 of the fair value hierarchy if actively traded on an exchange or in Level 2 of the fair value hierarchy if trading is not active. Unlisted fund units are generally marked to NAV and categorized as Level 2; however, positions which are not redeemable at the measurement date or in the near future are categorized in Level 3 of the fair value hierarchy.

Derivative and Other Contracts.

 

   

Listed Derivative Contracts.    Listed derivatives that are actively traded are valued based on quoted prices from the exchange and are categorized in Level 1 of the fair value hierarchy. Listed derivatives that

 

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MORGAN STANLEY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

 

are not actively traded are valued using the same approaches as those applied to over-the-counter (“OTC”) derivatives; they are generally categorized in Level 2 of the fair value hierarchy.

 

   

OTC Derivative Contracts.    OTC derivative contracts include forward, swap and option contracts related to interest rates, foreign currencies, credit standing of reference entities, equity prices or commodity prices.

Depending on the product and the terms of the transaction, the fair value of OTC derivative products can be either observed or modeled using a series of techniques and model inputs from comparable benchmarks, including closed-form analytic formulas, such as the Black-Scholes option-pricing model, and simulation models or a combination thereof. Many pricing models do not entail material subjectivity because the methodologies employed do not necessitate significant judgment, and the pricing inputs are observed from actively quoted markets, as is the case for generic interest rate swaps, certain option contracts and certain credit default swaps. In the case of more established derivative products, the pricing models used by the Company are widely accepted by the financial services industry. A substantial majority of OTC derivative products valued by the Company using pricing models fall into this category and are categorized in Level 2 of the fair value hierarchy.

Other derivative products, including complex products that have become illiquid, require more judgment in the implementation of the valuation technique applied due to the complexity of the valuation assumptions and the reduced observability of inputs. This includes certain types of interest rate derivatives with both volatility and correlation exposure and credit derivatives including credit default swaps on certain mortgage-backed or asset-backed securities, basket credit default swaps and CDO-squared positions (a CDO-squared position is a special purpose vehicle that issues interests, or tranches, that are backed by tranches issued by other CDOs) where direct trading activity or quotes are unobservable. These instruments involve significant unobservable inputs and are categorized in Level 3 of the fair value hierarchy.

Derivative interests in credit default swaps on certain mortgage-backed or asset-backed securities, for which observability of external price data is limited, are valued based on an evaluation of the market and model input parameters sourced from similar positions as indicated by primary and secondary market activity. Each position is evaluated independently taking into consideration available comparable market levels as well as cash-synthetic basis, or the underlying collateral performance and pricing, behavior of the tranche under various cumulative loss and prepayment scenarios, deal structures (e.g., non-amortizing reference obligations, call features, etc.) and liquidity. While these factors may be supported by historical and actual external observations, the determination of their value as it relates to specific positions nevertheless requires significant judgment.

For basket credit default swaps and CDO-squared positions, the correlation input between reference credits is unobservable for each specific swap or position and is benchmarked to standardized proxy baskets for which correlation data are available. The other model inputs such as credit spread, interest rates and recovery rates are observable. In instances where the correlation input is deemed to be significant, these instruments are categorized in Level 3 of the fair value hierarchy; otherwise, these instruments are categorized in Level 2 of the fair value hierarchy.

The Company trades various derivative structures with commodity underlyings. Depending on the type of structure, the model inputs generally include interest rate yield curves, commodity underlier price curves, implied volatility of the underlying commodities and, in some cases, the implied correlation between these inputs. The fair value of these products is determined using executed trades and broker and consensus data to provide values for the aforementioned inputs. Where these inputs are unobservable, relationships to observable commodities and data points, based on historic and/or implied observations, are employed as a technique to estimate the model input values. Commodity derivatives are generally

 

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MORGAN STANLEY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

categorized in Level 2 of the fair value hierarchy; in instances where significant inputs are unobservable, they are categorized in Level 3 of the fair value hierarchy.

For further information on derivative instruments and hedging activities, see Note 11.

Investments.

 

   

The Company’s investments include direct investments in equity securities as well as investments in private equity funds, real estate funds and hedge funds, which include investments made in connection with certain employee deferred compensation plans. Direct investments are presented in the fair value hierarchy table as Principal investments and Other. Initially, the transaction price is generally considered by the Company as the exit price and is the Company’s best estimate of fair value.

After initial recognition, in determining the fair value of non-exchange-traded internally and externally managed funds, the Company generally considers the NAV of the fund provided by the fund manager to be the best estimate of fair value. For non-exchange-traded investments either held directly or held within internally managed funds, fair value after initial recognition is based on an assessment of each underlying investment, considering rounds of financing and third-party transactions, discounted cash flow analyses and market-based information, including comparable company transactions, trading multiples and changes in market outlook, among other factors. Exchange-traded direct equity investments are generally valued based on quoted prices from the exchange.

Exchange-traded direct equity investments that are actively traded are categorized in Level 1 of the fair value hierarchy. Non-exchange-traded direct equity investments and investments in private equity and real estate funds are generally categorized in Level 3 of the fair value hierarchy. Investments in hedge funds that are redeemable at the measurement date or in the near future are categorized in Level 2 of the fair value hierarchy; otherwise, they are categorized in Level 3 of the fair value hierarchy.

Physical Commodities.

 

   

The Company trades various physical commodities, including crude oil and refined products, natural gas, base and precious metals, and agricultural products. Fair value for physical commodities is determined using observable inputs, including broker quotations and published indices. Physical commodities are categorized in Level 2 of the fair value hierarchy; in instances where significant inputs are unobservable, they are categorized in Level 3 of the fair value hierarchy.

Securities Available for Sale.

 

   

Securities available for sale are composed of U.S. government and agency securities (e.g., U.S. Treasury securities, agency-issued debt, agency mortgage pass-through securities and collateralized mortgage obligations), CMBS, Federal Family Education Loan Program (“FFELP”) student loan asset-backed securities, auto loan asset-backed securities, corporate bonds and equity securities. Actively traded U.S. Treasury securities, non-callable agency-issued debt securities and equity securities are generally categorized in Level 1 of the fair value hierarchy. Callable agency-issued debt securities, agency mortgage pass-through securities, collateralized mortgage obligations, CMBS, FFELP student loan asset-backed securities, auto loan asset-backed securities and corporate bonds are generally categorized in Level 2 of the fair value hierarchy. For further information on securities available for sale, see Note 5.

Deposits.

 

   

Time Deposits.    The fair value of certificates of deposit is determined using third-party quotations. These deposits are generally categorized in Level 2 of the fair value hierarchy.

 

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MORGAN STANLEY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

Commercial Paper and Other Short-Term Borrowings/Long-Term Borrowings.

 

   

Structured Notes.    The Company issues structured notes that have coupon or repayment terms linked to the performance of debt or equity securities, indices, currencies or commodities. Fair value of structured notes is determined using valuation models for the derivative and debt portions of the notes. These models incorporate observable inputs referencing identical or comparable securities, including prices to which the notes are linked, interest rate yield curves, option volatility and currency, commodity or equity prices. Independent, external and traded prices for the notes are considered as well. The impact of the Company’s own credit spreads is also included based on the Company’s observed secondary bond market spreads. Most structured notes are categorized in Level 2 of the fair value hierarchy.

Securities Purchased under Agreements to Resell and Securities Sold under Agreements to Repurchase.

 

   

The fair value of a reverse repurchase agreement or repurchase agreement is computed using a standard cash flow discounting methodology. The inputs to the valuation include contractual cash flows and collateral funding spreads, which are estimated using various benchmarks, interest rate yield curves and option volatilities. In instances where the unobservable inputs are deemed significant, reverse repurchase agreements and repurchase agreements are categorized in Level 3 of the fair value hierarchy; otherwise, they are categorized in Level 2 of the fair value hierarchy.

The following fair value hierarchy tables present information about the Company’s assets and liabilities measured at fair value on a recurring basis at June 30, 2013 and December 31, 2012.

 

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MORGAN STANLEY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

Assets and Liabilities Measured at Fair Value on a Recurring Basis at June 30, 2013.

 

     Quoted
Prices  in
Active

Markets
for
Identical

Assets
(Level 1)
    Significant
Observable
Inputs
(Level 2)
    Significant
Unobservable
Inputs

(Level 3)
    Counterparty
and Cash
Collateral
Netting
    Balance at
June  30,
2013
 
     (dollars in millions)  

Assets at Fair Value

          

Trading assets:

          

U.S. government and agency securities:

          

U.S. Treasury securities

   $ 25,543      $ —        $ —        $ —        $ 25,543   

U.S. agency securities

     1,694        23,321        —          —          25,015   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total U.S. government and agency securities

     27,237        23,321        —          —          50,558   

Other sovereign government obligations

     25,894        7,632        4        —          33,530   

Corporate and other debt:

          

State and municipal securities

     —          1,585        —          —          1,585   

Residential mortgage-backed securities

     —          3,500        19        —          3,519   

Commercial mortgage-backed securities

     —          1,536        181        —          1,717   

Asset-backed securities

     —          875        108        —          983   

Corporate bonds

     —          15,962        509        —          16,471   

Collateralized debt obligations

     —          403        1,333        —          1,736   

Loans and lending commitments

     —          8,988        5,243        —          14,231   

Other debt

     —          8,099        12        —          8,111   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total corporate and other debt

     —          40,948        7,405        —          48,353   

Corporate equities(1)

     74,239        1,293        256        —          75,788   

Derivative and other contracts:

          

Interest rate contracts

     3,159        590,334        2,980        —          596,473   

Credit contracts

     —          51,847        3,094        —          54,941   

Foreign exchange contracts

     27        59,958        125        —          60,110   

Equity contracts

     900        49,982        989        —          51,871   

Commodity contracts

     3,154        15,710        2,432        —          21,296   

Other

     —          189        —          —          189   

Netting(2)

     (5,645     (670,281     (6,697     (63,496     (746,119
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total derivative and other contracts

     1,595        97,739        2,923        (63,496     38,761   

Investments:

          

Private equity funds

     —          —          2,286        —          2,286   

Real estate funds

     —          6        1,422        —          1,428   

Hedge funds

     —          447        407        —          854   

Principal investments

     20        2        2,822        —          2,844   

Other

     181        141        385        —          707   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total investments

     201        596        7,322        —          8,119   

Physical commodities

     —          4,929        —          —          4,929   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total trading assets

     129,166        176,458        17,910        (63,496     260,038   

Securities available for sale

     15,718        27,140        —          —          42,858   

Securities received as collateral

     14,674        75        —          —          14,749   

Federal funds sold and securities purchased under agreements to resell

     —          869        —          —          869   

Intangible assets(3)

     —          —          9        —          9   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total assets measured at fair value

   $ 159,558      $ 204,542      $ 17,919      $ (63,496   $ 318,523   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

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MORGAN STANLEY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

     Quoted
Prices  in
Active

Markets
for
Identical

Assets
(Level 1)
    Significant
Observable
Inputs
(Level 2)
    Significant
Unobservable
Inputs

(Level 3)
    Counterparty
and Cash
Collateral
Netting
    Balance at
June  30,
2013
 
     (dollars in millions)  

Liabilities at Fair Value

          

Deposits

   $ —        $ 1,425      $ —        $ —        $ 1,425   

Commercial paper and other short-term borrowings

     —          1,590        —          —          1,590   

Trading liabilities:

          

U.S. government and agency securities:

          

U.S. Treasury securities

     19,741        —          —          —          19,741   

U.S. agency securities

     2,766        79        —          —          2,845   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total U.S. government and agency securities

     22,507        79        —          —          22,586   

Other sovereign government obligations

     25,035        2,308        —          —          27,343   

Corporate and other debt:

          

State and municipal securities

     —          36        —          —          36   

Residential mortgage-backed securities

     —          —          4        —          4   

Corporate bonds

     —          6,813        42        —          6,855   

Collateralized debt obligations

     —          16        —          —          16   

Unfunded lending commitments

     —          216        8        —          224   

Other debt

     —          246        11        —          257   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total corporate and other debt

     —          7,327        65        —          7,392   

Corporate equities(1)

     28,256        792        16        —          29,064   

Derivative and other contracts:

          

Interest rate contracts

     3,293        566,567        2,964        —          572,824   

Credit contracts

     —          49,712        2,409        —          52,121   

Foreign exchange contracts

     8        59,554        221        —          59,783   

Equity contracts

     598        54,666        2,273        —          57,537   

Commodity contracts

     3,776        15,234        1,651        —          20,661   

Other

     —          178        6        —          184   

Netting(2)

     (5,645     (670,281     (6,697     (38,787     (721,410
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total derivative and other contracts

     2,030        75,630        2,827        (38,787     41,700   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total trading liabilities

     77,828        86,136        2,908        (38,787     128,085   

Obligation to return securities received as collateral

     19,062        92        —          —          19,154   

Securities sold under agreements to repurchase

     —          404        148        —          552   

Other secured financings

     —          6,196        256        —          6,452   

Long-term borrowings

     —          38,114        2,705        —          40,819   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total liabilities measured at fair value

   $ 96,890      $ 133,957      $ 6,017      $ (38,787   $ 198,077   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

(1) The Company holds or sells short for trading purposes equity securities issued by entities in diverse industries and of varying size.
(2) For positions with the same counterparty that cross over the levels of the fair value hierarchy, both counterparty netting and cash collateral netting are included in the column titled “Counterparty and Cash Collateral Netting.” For contracts with the same counterparty, counterparty netting among positions classified within the same level is included within that level. For further information on derivative instruments and hedging activities, see Note 11.
(3) Amount represents mortgage servicing rights (“MSR”) accounted for at fair value. See Note 7 for further information on MSRs.

Transfers Between Level 1 and Level 2 During the Quarter and Six Months Ended June 30, 2013.

For assets and liabilities that were transferred between Level 1 and Level 2 during the period, fair values are ascribed as if the assets or liabilities had been transferred as of the beginning of the period.

In the quarter and six months ended June 30, 2013, there were no material transfers between Level 1 and Level 2.

 

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MORGAN STANLEY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

Assets and Liabilities Measured at Fair Value on a Recurring Basis at December 31, 2012.

 

     Quoted
Prices in
Active
Markets
for
Identical
Assets
(Level 1)
    Significant
Observable
Inputs
(Level 2)
    Significant
Unobservable
Inputs

(Level 3)
    Counterparty
and Cash
Collateral
Netting
    Balance at
December 31,
2012
 
     (dollars in millions)  

Assets at Fair Value

          

Trading assets:

          

U.S. government and agency securities:

          

U.S. Treasury securities

   $ 24,662      $ 14      $ —        $ —        $ 24,676   

U.S. agency securities

     1,451        27,888        —          —          29,339   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total U.S. government and agency securities

     26,113        27,902        —          —          54,015   

Other sovereign government obligations

     37,669        5,487        6        —          43,162   

Corporate and other debt:

          

State and municipal securities

     —          1,558        —          —          1,558   

Residential mortgage-backed securities

     —          1,439        45        —          1,484   

Commercial mortgage-backed securities

     —          1,347        232        —          1,579   

Asset-backed securities

     —          915        109        —          1,024   

Corporate bonds

     —          18,403        660        —          19,063   

Collateralized debt obligations

     —          685        1,951        —          2,636   

Loans and lending commitments

     —          12,617        4,694        —          17,311   

Other debt

     —          4,457        45        —          4,502   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total corporate and other debt

     —          41,421        7,736        —          49,157   

Corporate equities(1)

     68,072        1,067        288        —          69,427   

Derivative and other contracts:

          

Interest rate contracts

     446        819,581        3,774        —          823,801   

Credit contracts

     —          63,234        5,033        —          68,267   

Foreign exchange contracts

     34        52,729        31        —          52,794   

Equity contracts

     760        37,074        766        —          38,600   

Commodity contracts

     4,082        14,256        2,308        —          20,646   

Other

     —          143        —          —          143   

Netting(2)

     (4,740     (883,733     (6,947     (72,634     (968,054
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total derivative and other contracts

     582        103,284        4,965        (72,634     36,197   

Investments:

          

Private equity funds

     —          —          2,179        —          2,179   

Real estate funds

     —          6        1,370        —          1,376   

Hedge funds

     —          382        552        —          934   

Principal investments

     185        83        2,833        —          3,101   

Other

     199        71        486        —          756   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total investments

     384        542        7,420        —          8,346   

Physical commodities

     —          7,299        —          —          7,299   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total trading assets

     132,820        187,002        20,415        (72,634     267,603   

Securities available for sale

     14,466        25,403        —          —          39,869   

Securities received as collateral

     14,232        46        —          —          14,278   

Federal funds sold and securities purchased under agreements to resell

     —          621        —          —          621   

Intangible assets(3)

     —          —          7        —          7   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total assets measured at fair value

   $ 161,518      $ 213,072      $ 20,422      $ (72,634   $ 322,378   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

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Table of Contents

MORGAN STANLEY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

     Quoted
Prices in
Active
Markets
for
Identical
Assets
(Level 1)
    Significant
Observable
Inputs
(Level 2)
    Significant
Unobservable
Inputs

(Level 3)
    Counterparty
and Cash
Collateral
Netting
    Balance at
December 31,
2012
 
     (dollars in millions)  

Liabilities at Fair Value

          

Deposits

   $ —        $ 1,485      $ —        $ —        $ 1,485   

Commercial paper and other short-term borrowings

     —          706        19        —          725   

Trading liabilities:

          

U.S. government and agency securities:

          

U.S. Treasury securities

     20,098        21        —          —          20,119   

U.S. agency securities

     1,394        107        —          —          1,501   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total U.S. government and agency securities

     21,492        128        —          —          21,620   

Other sovereign government obligations

     27,583        2,031        —          —          29,614   

Corporate and other debt:

          

State and municipal securities

     —          47        —          —          47   

Residential mortgage-backed securities

     —          —          4        —          4   

Corporate bonds

     —          3,942        177        —          4,119   

Collateralized debt obligations

     —          328        —          —          328   

Unfunded lending commitments

     —          305        46        —          351   

Other debt

     —          156        49        —          205   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total corporate and other debt

     —          4,778        276        —          5,054   

Corporate equities(1)

     25,216        1,655        5        —          26,876   

Derivative and other contracts:

          

Interest rate contracts

     533        789,715        3,856        —          794,104   

Credit contracts

     —          61,283        3,211        —          64,494   

Foreign exchange contracts

     2        56,021        390        —          56,413   

Equity contracts

     748        39,212        1,910        —          41,870   

Commodity contracts

     4,530        15,702        1,599        —          21,831   

Other

     —          54        7        —          61   

Netting(2)

     (4,740     (883,733     (6,947     (46,395     (941,815
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total derivative and other contracts

     1,073        78,254        4,026        (46,395     36,958   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total trading liabilities

     75,364        86,846        4,307        (46,395     120,122   

Obligation to return securities received as collateral

     18,179        47        —          —          18,226   

Securities sold under agreements to repurchase

     —          212        151        —          363   

Other secured financings

     —          9,060        406        —          9,466   

Long-term borrowings

     —          41,255        2,789        —          44,044   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total liabilities measured at fair value

   $ 93,543      $ 139,611      $ 7,672      $ (46,395   $ 194,431   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

(1) The Company holds or sells short for trading purposes equity securities issued by entities in diverse industries and of varying size.
(2) For positions with the same counterparty that cross over the levels of the fair value hierarchy, both counterparty netting and cash collateral netting are included in the column titled “Counterparty and Cash Collateral Netting.” For contracts with the same counterparty, counterparty netting among positions classified within the same level is included within that level. For further information on derivative instruments and hedging activities, see Note 11.
(3) Amount represents MSRs accounted for at fair value. See Note 7 for further information on MSRs.

Transfers Between Level 1 and Level 2 During the Quarter Ended June 30, 2012.

Trading assets—Derivative and other contracts and Trading liabilities—Derivative and other contracts.    During the quarter ended June 30, 2012, the Company reclassified approximately $1.5 billion of derivative assets and approximately $1.7 billion of derivative liabilities from Level 2 to Level 1 as these listed derivatives became actively traded and were valued based on quoted prices from the exchange. Also during the quarter ended June 30, 2012, the Company reclassified approximately $0.5 billion of derivative assets and approximately $0.7 billion of derivative liabilities from Level 1 to Level 2 as transactions in these contracts did not occur with sufficient frequency and volume to constitute an active market.

 

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Table of Contents

MORGAN STANLEY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

Transfers Between Level 1 and Level 2 During the Six Months Ended June 30, 2012.

Trading assets—Derivative and other contracts and Trading liabilities—Derivative and other contracts.    During the six months ended June 30, 2012, the Company reclassified approximately $2.0 billion of derivative assets and approximately $1.8 billion of derivative liabilities from Level 2 to Level 1 as these listed derivatives became actively traded and were valued based on quoted prices from the exchange. Also during the six months ended June 30, 2012, the Company reclassified approximately $0.4 billion of derivative assets and approximately $0.4 billion of derivative liabilities from Level 1 to Level 2 as transactions in these contracts did not occur with sufficient frequency and volume to constitute an active market.

Level 3 Assets and Liabilities Measured at Fair Value on a Recurring Basis.

The following tables present additional information about Level 3 assets and liabilities measured at fair value on a recurring basis for the quarters and six months ended June 30, 2013 and 2012, respectively. Level 3 instruments may be hedged with instruments classified in Level 1 and Level 2. As a result, the realized and unrealized gains (losses) for assets and liabilities within the Level 3 category presented in the tables below do not reflect the related realized and unrealized gains (losses) on hedging instruments that have been classified by the Company within the Level 1 and/or Level 2 categories.

Additionally, both observable and unobservable inputs may be used to determine the fair value of positions that the Company has classified within the Level 3 category. As a result, the unrealized gains (losses) during the period for assets and liabilities within the Level 3 category presented in the tables below may include changes in fair value during the period that were attributable to both observable (e.g., changes in market interest rates) and unobservable (e.g., changes in unobservable long-dated volatilities) inputs.

For assets and liabilities that were transferred into Level 3 during the period, gains (losses) are presented as if the assets or liabilities had been transferred into Level 3 at the beginning of the period; similarly, for assets and liabilities that were transferred out of Level 3 during the period, gains (losses) are presented as if the assets or liabilities had been transferred out at the beginning of the period.

 

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Table of Contents

MORGAN STANLEY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

Changes in Level 3 Assets and Liabilities Measured at Fair Value on a Recurring Basis for the Quarter Ended June 30, 2013.

 

    Beginning
Balance at
March 31,
2013
    Total
Realized and
Unrealized
Gains
(Losses)(1)
    Purchases     Sales     Issuances     Settlements     Net
Transfers
    Ending
Balance at
June 30,
2013
    Unrealized
Gains
(Losses) for
Level 3
Assets/
Liabilities
Outstanding
at June 30,
2013(2)
 
    (dollars in millions)  

Assets at Fair Value

                 

Trading assets:

                 

Other sovereign government obligations

  $ 3      $ —        $ 7        (6   $ —        $ —        $ —        $ 4      $ —     

Corporate and other debt:

                 

Residential mortgage-backed securities

    19        —          15        (5     —          —          (10     19        (1

Commercial mortgage-backed securities

    174        —          26        (19     —          —          —          181        21   

Asset-backed securities

    11        1        107        (11     —          —          —          108        —     

Corporate bonds

    888        (11     183        (402     —          —          (149     509        2   

Collateralized debt obligations

    1,666        36        302        (596     —          (87     12        1,333        20   

Loans and lending commitments

    5,284        (55     1,086        (190     —          (850     (32     5,243        8   

Other debt

    1        7        4        —          —          —          —          12        7   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total corporate and other debt

    8,043        (22     1,723        (1,223     —          (937     (179     7,405        57   

Corporate equities

    270        (24     20        (13     —          —          3        256        (12

Net derivative and other contracts(3):

                 

Interest rate contracts

    (22     (43     3        —          (24     40        62        16        63   

Credit contracts

    1,403        (472     130        —          (221     (130     (25     685        (369

Foreign exchange contracts

    (235     95        —          —          —          58        (14     (96     95   

Equity contracts

    (1,340     18        7        —          (35     (1     67        (1,284     (79

Commodity contracts

    703        81        26        —          (13     (13     (3     781        58   

Other

    (3     (2     —          —          —          (1     —          (6     (2
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total net derivative and other contracts

    506        (323     166        —          (293     (47     87        96        (234

Investments:

                 

Private equity funds

    2,291        104        20        (129     —          —          —          2,286        97   

Real estate funds

    1,370        47        41        (36     —          —          —          1,422        87   

Hedge funds

    545        (2     10        (104     —          —          (42     407        (16

Principal investments

    2,855        (18     60        (75     —          —          —          2,822        82   

Other

    496        5        4        (30     —          —          (90     385        6   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total investments

    7,557        136        135        (374     —          —          (132     7,322        256   

Intangible assets

    8        3        —          —          —          (2     —          9        2   

Liabilities at Fair Value

                 

Commercial paper and other short-term borrowings

  $ 5      $ —        $ —        $ —        $ —        $ (2   $ (3   $ —        $ —     

Trading liabilities:

                 

Corporate and other debt:

                 

Residential mortgage-backed securities

    4        —          —          —          —          —          —          4        —     

Corporate bonds

    424        4        (248     36        —          —          (166     42        (1

Unfunded lending commitments

    25        17        —          —          —          —          —          8        17   

Other debt

    11        1        (4     2        —          —          3        11        —     
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total corporate and other debt

    464        22        (252     38        —          —          (163     65        16   

Corporate equities

    4        3        (8     17        —          —          6        16        2   

Obligation to return securities

                 

Securities sold under agreements to repurchase

    155        7        —          —          —          —          —          148        7   

Other secured financings

    275        16        —          —          —          (3     —          256        16   

Long-term borrowings

    2,784        68        —          —          466        (457     (20     2,705        65   

 

(1) Total realized and unrealized gains (losses) are primarily included in Trading in the condensed consolidated statements of income except for $136 million related to Trading assets—Investments, which is included in Investments revenues.

 

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MORGAN STANLEY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

(2) Amounts represent unrealized gains (losses) for the quarter ended June 30, 2013 related to assets and liabilities still outstanding at June 30, 2013.
(3) Net derivative and other contracts represent Trading assets—Derivative and other contracts net of Trading liabilities—Derivative and other contracts. For further information on derivative instruments and hedging activities, see Note 11.

Changes in Level 3 Assets and Liabilities Measured at Fair Value on a Recurring Basis for the Six Months Ended June 30, 2013.

 

    Beginning
Balance at
December 31,
2012
    Total
Realized
and
Unrealized
Gains
(Losses)(1)
    Purchases     Sales     Issuances     Settlements     Net
Transfers
    Ending
Balance at
June 30,
2013
    Unrealized
Gains
(Losses) for
Level 3 Assets/
Liabilities
Outstanding
at June 30,
2013(2)
 
    (dollars in millions)  

Assets at Fair Value

                 

Trading assets:

                 

Other sovereign government obligations

  $ 6      $ —        $ 8      $ (8   $ —        $ —        $ (2   $ 4      $ —     

Corporate and other debt:

                 

Residential mortgage-backed securities

    45        27        16        (44     —          —          (25     19        10   

Commercial mortgage-backed securities

    232        17        25        (93     —          —          —          181        30   

Asset-backed securities

    109        1        6        (8     —          —          —          108        —     

Corporate bonds

    660        2        193        (296     —          (12     (38     509        (19

Collateralized debt obligations

    1,951        284        429        (1,314     —          (15     (2     1,333        (54

Loans and lending commitments

    4,694        (55     1,616        (294     —          (1,050     332        5,243        (16

Other debt

    45        (2     20        (50     —          —          (1     12        (1
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total corporate and other debt

    7,736        274        2,305        (2,099     —          (1,077     266        7,405        (50

Corporate equities

    288        (9     37        (41     —          —          (19     256        (24

Net derivative and other contracts(3):

                 

Interest rate contracts

    (82     (193     6        —          (30     179        136        16        (76

Credit contracts

    1,822        (937     169        —          (235     (127     (7     685        (789

Foreign exchange contracts

    (359     114        —          —          —          140        9        (96     79   

Equity contracts

    (1,144     48        74        (1     (116     (236     91        (1,284     (5

Commodity contracts

    709        46        36        —          (17     9        (2     781        38   

Other

    (7     (4     —          —          —          5        —          (6     (4
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total net derivative and other contracts

    939        (926     285        (1     (398     (30     227        96        (757

Investments:

                 

Private equity funds

    2,179        218        88        (199     —          —          —          2,286        194   

Real estate funds

    1,370        128        42        (119     —          —          1        1,422        207   

Hedge funds

    552        —          38        (136     —          —          (47     407        (19

Principal investments

    2,833        45        95        (160     —          —          9        2,822        143   

Other

    486        21        16        (47     —          —          (91     385        22   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total investments

    7,420        412        279        (661     —          —          (128     7,322        547   

Intangible assets

    7        7        —          —          —          (5     —          9        3   

 

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Table of Contents

MORGAN STANLEY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—(Continued)

 

    Beginning
Balance at
December 31,
2012
    Total
Realized
and
Unrealized
Gains
(Losses)(1)
    Purchases     Sales     Issuances     Settlements     Net
Transfers
    Ending
Balance at
June 30,
2013
    Unrealized
Gains
(Losses) for
Level 3 Assets/
Liabilities
Outstanding
at June 30,
2013(2)
 
    (dollars in millions)  

Liabilities at Fair Value

                 

Commercial paper and other short-term borrowings

  $ 19      $ —        $ —        $ —        $ —        $ (2   $ (17   $ —        $ —     

Trading liabilities:

                 

Corporate and other debt:

                 

Residential mortgage-backed securities

    4        —          —          —          —          —          —          4        —     

Corporate bonds

    177        (7     (437     83        —          —          212        42        9   

Unfunded lending commitments

    46        38        —          —          —          —          —          8        38   

Other debt

    49        13        (33     5        —          —          3        11        10   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total corporate and other debt

    276        44        (470     88        —          —          215        65        57   

Corporate equities

    5        5        (13     29        —          —          —          16        5   

Securities sold under agreements to repurchase

    151        3        —          —          —          —