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DealBook: Banks Ease Capital Cost of Loans to Brokers

May 1, 2013 by Leave a Comment

James Eastman filed a claim.Devin EastmanJames Eastman filed a claim.

To attract financial advisers, brokerage firms often offer them loans. They are loans with a difference, however.

The loans are essentially payments to lure the advisers — and presumably many of their clients — to the firm and keep them there. The loans are typically forgiven over time if the financial adviser, or broker, meets various performance requirements and does not defect to a rival.

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There is a cost to this practice. The Securities and Exchange Commission requires brokerage firms to hold a significant amount of capital, one dollar for each dollar lent, to protect against loan losses. Then, if the customer does not make good on the loan, the shareholders of the brokerage firm are protected.

Morgan Stanley, however, houses the roughly $6 billion in loans it has made to its financial advisers outside its broker-dealer unit. Segregating these loans allows the bank to set aside just 8 cents for every dollar lent, a much lower capital cost than its rivals Wells Fargo and Bank of America pay. Wells says it keeps all these loans at its broker-dealer, taking a higher capital charge. Bank of America keeps some at its broker-dealer and some in a unit that allows it to set aside less capital. An arbitration case in Tampa, Fla., has opened a window on the different choices that financial firms make about where to house virtually identical assets and how those decisions can reduce a firm’s capital burden. Such calls — rarely disclosed publicly — have become more important since the financial crisis as regulators have pushed banks to hold more capital to protect against potential losses.

“This is classic regulatory arbitrage,” said Rebel A. Cole, a professor of finance at DePaul University. “There is clearly an incentive for Morgan Stanley to hold these loans outside their brokerage operations.”

A spokesman for Morgan Stanley, James Wiggins, said the bank held these loans outside its brokerage operation because they were not related to customer activity.

“While carrying the loans in the servicing entity does decrease the amount of capital held in the broker-dealer subsidiary, it does not reduce the amount of capital held against them at the overall company level,” the spokesman said, referring to the 8-cents-on-the-dollar capital charge for loans held at banks’ holding companies. He said that Morgan Stanley had had this structure for years to take a lower capital charge and that Citigroup had the same structure. Morgan Stanley and Citigroup combined their wealth management operations in 2009.

Neither Bank of America nor Wells Fargo Bank would disclose the value of their broker loans. Wall Street executives with knowledge of the loan structures, who were not authorized to speak on the record, suggested that some banks have not moved the loans outside of the broker-dealer because doing so might draw regulatory scrutiny and would require these banks to rewrite thousands of client contracts.

Morgan Stanley headquarters in New York. An arbitration case has cast light on the way the bank handles loans to employees.Richard Drew/Associated PressMorgan Stanley headquarters in New York. An arbitration case has cast light on the way the bank handles loans to employees.

Details about Morgan Stanley’s arrangement emerged in a recent dispute involving a former financial adviser. The broker, James Eastman, 59, filed an arbitration claim against the bank after he left in 2010, arguing defamation of character and wrongful dismissal. He sought to have his loans from the bank forgiven, something Morgan Stanley was unwilling to do.

After working at Citigroup for years, Mr. Eastman became part of Morgan Stanley after the two firms combined their brokerage operations.

He ended up with two loans. The first was made in 2001, when he started at Citigroup, and it was valued at $942,532. It was forgivable over 10 years, and then subsequently extended. In 2009, he received another loan, valued at $214,648, to encourage him to stay through the merger. Mr. Eastman left the company in 2010, owing roughly $400,000 on the two loans, according to his lawyer, Chris Vernon.

Typically a broker gets a loan that covers several years and is required to pay interest on it. The broker repays the loan using earnings from a parallel bonus pool, assuming certain performance targets are met. If they are not, or the broker bolts to another firm, the broker may be required to pay the loan back.

Mr. Vernon says he was concerned that the entity holding Mr. Eastman’s loans was something called Morgan Stanley FA Notes Holdings, and not the brokerage business, Morgan Stanley Smith Barney. He says he did not want a third party coming after his client later, so he argued that Morgan Stanley FA Notes Holdings, not Morgan Stanley Smith Barney, should be a party to the arbitration case. As part of the arbitration, Jeffrey Gelfand, the chief financial officer of Morgan Stanley’s wealth management business, was called to testify.

Under oath, Mr. Gelfand explained that Morgan Stanley had always housed broker loans outside its broker-dealer. The current holding company, he said, was created in 2009, just weeks before the announcement that Morgan Stanley and Citigroup were combining their wealth management operations.

“Having them away from the broker-dealer just allows us to minimize the regulatory capital associated with them and operate the broker-dealer more efficiently,” he explained to the three arbiters hearing his claim.

He said Morgan Stanley financed its broker-dealer “well in excess of the minimum capital requirement,” so leaving the loans there might not necessarily affect how much capital the bank’s broker-dealer has, but it “reduces the requirement if that was important at any point in time.”

The arbitration was bittersweet for Mr. Eastman. While he received a lesson in Wall Street capital decisions, the arbitration panel denied Mr. Eastman’s claims in March and ordered him to pay back roughly $200,000 of the $400,000 he owed the bank. As well, the panel granted his motion to dismiss Morgan Stanley Smith Barney as a party on his two loans.

Mr. Vernon has now filed a claim in Florida court for lawyers’ fees.

Article source: http://dealbook.nytimes.com/2013/05/01/banks-ease-capital-cost-of-loans-to-brokers/?partner=rss&emc=rss

Filed Under: Global Business Tagged With: , ,

Number of At-Risk Banks Declines

November 22, 2011 by Leave a Comment

The number of banks on the government’s list of financial institutions most at risk for failure fell for the second consecutive quarter, according to data released Tuesday by the Federal Deposit Insurance Corporation, signaling that the troubles for most American banks may be easing even as Europe’s problems grow worse.

Twenty-one lenders came off the list of so-called problem banks during the third quarter, compared with 23 in the previous period. That brings the total number of troubled banks to 844, or roughly one out of nine lenders.

Not all of those lenders will ultimately fail, but the agency considers them most at risk, making the quarterly update one of the most crucial measures of the industry’s health.

Other signs were mixed. Although the nation’s 7,436 banks registered a nearly 50 percent jump in profit during the third quarter, to $35.3 billion, revenue growth was extremely weak. The bulk of the gains — more than 80 percent, in fact — came from the banks setting less money aside to cover loan losses.

Lending also showed modest improvement, with overall loan balances growing for the second consecutive quarter. The biggest improvement came from loans made to large and midsize corporations, while smaller business loans declined during the period. Home lending remains under stress.

Banks, meanwhile, continued to be flooded with deposits as corporations and consumers flocked to the sidelines amid the gloomy economic reports and the looming fears that Europe’s debt troubles could ripple across the Atlantic. Total deposits rose by more than $234.5 billion, with the nation’s biggest banks receiving about three-quarters of the influx of cash.

Martin J. Gruenberg, the F.D.I.C.’s acting chairman, said that even as the nation’s banks had vastly improved their finances, he remained concerned about the challenges ahead.

“Ongoing distress in real estate markets and slow growth in jobs and incomes continue to pose risks to credit quality,” he said in a statement. “The U.S. economic outlook is also clouded by uncertainties in the global economy and by volatility in financial markets.

Twenty-six banks, most small, were closed during the third quarter. That was four more than in the previous period, but the pace of bank failures has fallen sharply from a year ago, as the agency had expected. There were 74 bank failures through the first nine months of 2011, compared with 127 in the period a year earlier.

The F.D.I.C. insurance fund, which protects the nation’s depositors in the event of a bank collapse, continued to improve. After dipping into the red after the 2008 financial crisis, the fund has been replenished with the help of prepaid premiums and changes to the assessment formula. The fund’s balance now stands at $7.8 billion as of the end of September, up from $3.9 billion at the end of June.

Article source: http://feeds.nytimes.com/click.phdo?i=b4d43d176bd7050fdec03bea65ce7b11

Filed Under: Business News Tagged With: , ,

Dow Barrels Ahead After Debt Remarks

July 19, 2011 by Leave a Comment

Already rallying on earnings reports, stocks leaped further ahead Tuesday after President Obama announced a breakthrough on the debt-ceiling talks.

Earlier, stocks had risen more than 1 percent after Coca-Cola said its net income rose 18 percent on higher overseas sales and after I.B.M.’s results late Monday beat analysts’ estimates.

But it was after Mr. Obama spoke that the Dow Jones industrial average powered through a gain of more than 220 points to a high of 12,607.56. The Dow ended the day up 202.26, or 1.63 percent, to 12,587.42. The broader Standard Poor’s 500-stock index rose 21.29 points, or 1.63 percent, to 1,326.73, and the technology-heavy Nasdaq composite gained 61.41, or 2.22 percent, to 2,826.52.

President Obama said there was “progress” in negotiations with bipartisan lawmakers over raising the nation’s debt ceiling, leading to a deficit-cutting proposal by a bipartisan group of lawmakers that was “broadly consistent” with what the administration was pursuing.

Earlier, the Commerce Department said housing starts in the United States rose more than expected in June, reaching a six-month high, and permits for future construction unexpectedly increased.

Investors also took in quarterly earnings announcements from three major banks: Goldman Sachs reported a profit of $1.05 billion, a relatively weak showing; Bank of America said it lost $8.8 billion, in line with expectations as it settled legal claims related to its troubled mortgage division; and Wells Fargo reported a 29 percent increase in profit, as loan losses eased.

In Europe, the FTSE 100 index of leading British shares was up 0.65 percent at 5,789.99 points, while Germany’s DAX rose 1.19 percent to 7,192.67. The CAC 40 in France was 1.21 percent higher at 3,694.95 points.

The main point of interest in Europe this week will probably be Thursday’s meeting of European Union leaders in Brussels. They are scheduled to discuss a second bailout package for Greece, which relies on such lifelines to meet its obligations.

Just two days ahead of the meeting, it remained unclear whether a mechanism whereby Greece avoids a default will be clinched. If the credit rating agencies say Greece is in default following the bailout package, then there are real worries in the markets of renewed instability.

The euro has largely managed to withstand pressures of a potential Greek default in recent weeks, and was trading 0.3 percent higher at $1.4170.

Some Asian stocks pared some of their early losses after the European open, but still ended mostly down. Japan’s Nikkei 225 stock average extended losses to decline 0.9 percent to 9,889.72 after being closed for a national holiday Monday. Hong Kong’s Hang Seng rebounded to gain 0.5 percent to 21,902.40 while mainland China’s Shanghai Composite Index fell 0.7 percent to 2,796.98.

Oil prices reached $97 a barrel amid expectations that United States crude supplies dropped last week. Benchmark oil for August delivery was up $1.48 to $97.41 a barrel in trading on the New York Mercantile Exchange.

Article source: http://www.nytimes.com/2011/07/20/business/Daily-Stock-Market-Activity.html?partner=rss&emc=rss

Filed Under: Global Business Tagged With: , ,