Once again, the analysts are trailing the market. Merrill Lynch has upgraded Morgan Stanley to “buy” from neutral:

13 Oct 2008 14:12 EDT *DJ Morgan Stanley Raised To Buy From Neutral By Merrill Lynch

It’s just a matter of time before the others now follow. Meanwhile, we hear that Trump Entertainment has been downgraded. That’s probably another of those “just a matter of time” scenarios too.

We knew that Morgan Stanley was in talks with a number of banks to discuss possible mergers. But until late tonight we only had one name: Wachovia. Now CNBC has dug up another name: Chinese bank Citic.

Morgan Stanley is in talks to possibly be acquired by Chinese bank Citic, sources in the U.S. and China have told CNBC.

No deal is certain at this time, however, and sources said that none was likely to be finalized Wednesday.

Morgan Stanley in Talks with Chinese Bank Citic [CNBC]

Morgan Stanley and Goldman Sachs are linking their lending to hedge funds to the market’s assessment of the credit worthiness of the investment banks. Morgan Stanley will reportedly evaluate the amount of leverage it will supply to hedge funds based on the price of its own credit insurance pricing. Goldman is said to be linking its willingness to provide loans to hedge funds based on its bond prices.

The report of both changes ran in the Financial Times. The changes would limit the ability of hedge funds to borrow from either firm if borrowing by Morgan and Goldman became too expensive, indicating a lack of market confidence in the financial health of the firms.

In one sense, this seems a practical response to volatility in the credit markets, reducing exposure to hedge fund leverage as credit markets for financial companies become unsettled. It does, however, create a self-serving dynamic for the investment banks. If hedge funds taking the view that the companies have become unstable push up CDS or bond yields on the firms, they may find themselves unable to borrow from the firms. In other words, it gives the hedge funds an incentive not to bet against Goldman and Morgan.

The FT says the plans to link hedge fund leverage to the broader credit markets has been in the works for sometime. “These arrangements for determining the size of lending commitments to hedge fund clients were being put in place before the collapse of Bear Stearns,” Henny Sender writes. “But implementation has gathered pace as investment banks seek ways to guard against the sudden loss of confidence - and resulting withdrawal of market funding - that crippled Bear.”

MS and Goldman change approach to lending [Financial Times]

We’ve managed to get our hands on the responses to a survey Morgan Stanley took of its real estate department back in 2005. Even while the mortgage boom was ramping up, Morgan Stanley had serious retention and morale issues with this group. Eventually these responses were transformed into a management power point addressing the issue.

The responses range from trivial comments about beverages—there apparently wasn’t any Red Bull in the vending machines—to more serious issues about compensation. “Since we work harder a solution would be to increase our compensation,” one respondent says.

Many of the responses will be familiar to anyone who has worked in an investment bank—complaints about hours worked and feelings of being treated shabbily. “As the bottom rung of the ladder, I realize we have little to no control over our lives or what goes on in this place,” on of the Morgan Stanley employees says. “The trick is not to let us know that.”

Of course, complaints about co-workers also get mentioned. “There are certain associates and VPs which are extremely difficult and painful to work for. This is obviously something that cannot be eliminated, but should be mitigated wherever possible,” one person resigned to working for awful people writes.

After the jump, a link to download the entire set of responses.

Remember when we asked for the identity of the Morgan Stanley trader accused of mismarking his book to the tune of $120 million? Morgan Stanley, which has been investigating the situation since last month, declined to name the trader, saying it is not yet clear whether the mismark was an error or fraud.

But London’s newspapers have been more forthcoming. The Evening Standard identifies the trader as a certain Matthew Piper, who is said to be in his late thirties.

Morgan Stanley Suspends Trader After $120m Gaff [HereIsTheCity]

Morgan Stanley announced that it suspended a senior fixed income trader on its London trading floor after discovering he had marked up positions on his books by $120 million. Morgan Stanley has told the Financial Services Authority and begun an internal investigation. They say that while the $120 million is not material to their financial results, they disclosed the misdeed and investigation to send a clear message of “zero tolerance” for such shenanigans.

All well and good we suppose. But they didn’t go far enough. We want to know who this mismarking trader was. Send your guesses to tips@dealbreaker.com or leave a comment below.

Morgan Stanley suspends London dealer [Guardian]

In an era when we’ve all come to expect surprise results from investment banks, Morgan Stanley handed over some completely unsurprising results this morning. The earnings per share, at 95 cents, were just about in line with expectations. (Although what that means in when the highest analyst prediction was twice the lowest is unclear.) John Mack, Chairman and CEO, issued a statement telling us that things that you know were down and the things most competitors are getting right were done right at Morgan Stanley also. In short, fixed income and asset management sucked. Prime brokerage and equity derivatives did well. Also, they have a “world-class international franchise.” So everything will be alright then.

So maybe trouble at Lehman Brothers isn’t just short-sellers spinning a web of financial panic after all. Standard & Poor’s cut the ratings of Lehman Brothers, as well as Merrill Lynch and Morgan Stanley today. Counterparty credit ratings, which have been getting a lot of attention lately, were one prong of the S&P credit analyst Tanya Azarchs critique of the banks. The weakness of investment banking business—IPOs off 70% and M&A down 40%, according to some estimates—and the potential for more write-offs didn’t help either.

Azarchs is also criticizing the brokerages’ much vaunted capital raising. A good portion of the money raised by the firms has been in so-called hybrid securities that combine equity and debt aspects. The ratings agencies are wary of these because certain debt-like covenants and payment obligations can impose increased cash flow stress on banks.

The stock prices have taking a beating and the credit-default swap spreads are getting wider.

The larger commercial banks also didn’t escape S&P’s negativity on the financial sector.

CEO John Mack has reportedly been given the boot.

Morgan Stanley is supposedly laying off “double digit %” next week in New York. I know this sounds bad, but we’re just going to assume that the reduction in headcount is part of CEO John Mack’s plan to bring back taxi reimbursement for rides prior to 10 pm.

The $13.25 billion acquisition of Electronic Data Systems by Hewlett-Packard—the ninth largest tech deal ever, according to DealLogic—has moved the M&A league table standings, DealJournal Heidi Moore reports. Before the deal was announced, Goldman Sachs and Morgan Stanley led this year’s ranking from advising technology companies on mergers. But neither bank has a role in the H-P deal, pushing them down in the rankings

“Goldman ranked first with $14 billion of announced deals to its credit this year, and Morgan Stanley ranked second with $11 billion according to investment-banking research provider Dealogic,” Moore writes. “But now, Goldman is in third place, displaced by Lehman Brothers and J.P. Morgan. Lehman has jumped from fifth to first place with $17 billion of deals to its credit, while J.P. Morgan — which, just yesterday, languished in seventh place with only about $2.2 billion of tech deals to its credit — has vaulted to second place in the rankings from seventh place. Morgan Stanley has fallen to No. 5.”

Citigroup and Evercore Partners advised Electronic Data on the deal. J.P. Morgan Chase and Lehman Brothers advised Hewlett-Packard.

Hewlett-Packard: The Advisers [Deal Journal]

Morgan Stanley is now (like, right this second, according to Alley Insider) laying off an additional one thousand employees, on top of the thousand from a few weeks ago. The Journal says the cuts will affect mortgage employees, though we hear “no one in Fixed Income is safe.” And yet, Two and a Half Men is being allowed to come back with new episodes, as early as mid-March. Doesn’t seem fair. Got any more info? About anything? Anything at all? We’re listening.

Morgan Stanley to Lay Off 1,000 Mortgage Employees [WSJ]
Morgan Stanley Prepares To Lay Off 1,000 Workers [WSJ]

The new Trader Monthly is out today and since a lot of it is unavailable online and I’ve never seen or heard of anyone voluntarily buying the print edition, I decided I would read it for you and say something if anything good happened to come up. I never thought I’d say this, but something did. A profile of Morgan Stanley CEO John Mack, by CNBC reporter Charles Gasparino, which begins with, I shit you not, a quote from Goodfellas. My original intention was to humorously summarize the verbal stylings of this mythical creature, but I ultimately realized that to try and imitate/compress the work contained within is akin to etching a stick-figure rendition of the Sistine Chapel. Thus, I will simply submit this excerpt, and invite all to buy a copy for themselves (or deign to read the free one in the office). Before I do, a couple of words: I get the sneaking suspicion we are seeing the Observer Effect at work here. No Sleeves knows full well we are chronicling his every dagoesque utterance, and we submit he is subconsciously ginning up his I-talian in response to our observations. This sucks for two reasons: First, he is muscling in on my turf: this shit is getting hard to parody. Second, it’s a pose: Any pipe-banging paesano would cut this make-up wearing blow dry boy down before breakfast, sleeveless sweatshirt and all. Anyway. I can’t stay mad at him. Let us behold:

“IF YOU’RE PART of a crew, nobody ever tells you that they’re going to kill you — doesn’t happen that way. There weren’t any arguments or curses like in the movies. See, your murderers come with smiles, they come as your friends, the people who’ve cared for you all of your life. And they always seem to come at a time that you’re at your weakest and most in need of their help.” — Henry Hill, Goodfellas

New York’s five major families, despite decades of turf wars and nasty infighting, have coexisted remarkably well in recent times, which isn’t surprising considering how much money they’re raking in — more than enough for everybody.

I’m speaking, of course, about the StreetMob: Goldman Sachs, Morgan Stanley, JPMorgan,Merrill Lynch and Lehman Brothers. I’ve always found the similarities between Wall Street and La Cosa Nostra striking. Bosses. Made guys. Foot soldiers. Tribute. Sitdowns. Cozy ties with politicians. Hits.

Of course, people don’t get “whacked” on Wall Street — not literally, anyway. But they do get shot down execution-style, and such hits are often rather Mob-like. Firings are usually preceded by fake smiles. Demotions often occur with disingenuous gestures of support. Take, for example, the number Morgan Stanley’s CEO, John Mack, recently did on Zoe Cruz.

Out Comes The Knife [Trader Monthly]

So who is on this list of 14 companies under investigation by the FBI for their involvement in the subprime mortgage crisis? The FBI apparently intends to keep us in suspense because they won’t give details. All we know is that they are looking into “allegations of fraud at various stages of the mortgage process, from companies that bundled the loans into securities to the banks that ended up holding them.”

So let’s recklessly speculate. Two companies that are sure to be on the list are Bear Stearns—which is already under investigation by federal prosecutors and the SEC—and Countrywide, which is both the biggest home loan lender and also facing an SEC inquiry. Goldman Sachs is very likely on the list. It was accused on the pages of the Sunday New York Times of misleading clients by packaging CDOs while shorting the mortgage market. We know that at least one Senator read the article and has been making a stink, and we know that federal investigators often get their leads by reading the paper. What’s more, Goldman Sachs has said that it is cooperating with an unnamed government agency.

Morgan Stanley has also admitted to cooperating with unnamed government authorities. At first, everyone assumed this was the SEC. But why wouldn’t they come out and say that? More likely they declined to name the agency out of fear that saying they were cooperating with the FBI would tar them with serious criminality—rather than the everyday Wall Street shenanigans implied by an SEC investigation.

So that gives us four good leads. Who else is a cylon on the list? No doubt some additional mortgage companies and some home builders. Maybe the ratings agencies are also. Leave your guesses in the comments section below.

FBI Launches Subprime Probe [Wall Street Journal]

A (very) recently fired Credit Suisse employee tells us that “Every conference room on the CMBS floor has an HR representative working through people as they show up for work. Analysts and Associates seem to be the first out the door.” We understand that for the victims, this might seem like bad news, and yeah, you’ll probably feel weird about going to Shake Shack for a while, but the flipside is that you won’t have to deal with the embarrassment of being employed by Bear Stearns, when the two banks merge. In related news, Morgan Stanley has announced plans for its own population restructuring, as modeled after the redistribution project in the Sudan. If you have any other info, feel free to share, or not share, otherwise, enjoy this one on me:

Bonuses out of Morgan Stanley will increase from $8.39 billion to $9.93 billion this year. The extra spending money will serve MS employees well, when they’re all fired to make up for a near-$10 billion writedown. Taking one for the team is CEO John Mack, who will reportedly be pulling a Jimmy Cayne and forgoing his pile of unmarked twenties this year, and however unlikely, we move that for this statement alone, CFO Colm Kelleher should be stripped of his bonus, too, or given his plus Mack’s, I can’t decide: “If you were to normalize our business and take out this $9.4 billion charge, you would see that we had a record year across the whole enterprise.”

Morgan Stanley Bonus Pool Rises as CEO Forgoes Pay [Bloomberg]

[Alternative headline: Morgan Stanley: Okay, We’re Thinking Of A Number Between 1 And 4 Billion. Know What It Is? Analysts: Your Credit Score. Your 900 Number. Your- MS: Stop. None Of These Are Right. None Of Them. Analysts: The Number Saltines John Mack Can Eat In A Minute Without Water. MS: Wrong…But Also Right…If You’re Picking Up What We’re Throwing Down. Preference?]

Morgan Stanley beat analysts’ expectations for how badly this last quarter went, when it announced a net loss of $3.59 billion ($3.61/share), compared to last year’s net income of $1.54 billion ($1.44/share). Analysts had previously predicted losses of 39 cents/share. The extra dollar or so probably has something to do with the $9.4 billion in write-downs, and unforseen costs related to MSIM’s holiday party at the China Club last week. Speaking of China (Investment Corp.), the sovereign wealth fund was on hand to soften the negative $450 million revenue blow, by acquiring a 9.9 percent stake in the company, as China is wont to do. (Watch as it blows up in their faces, it’ll be funny.) Also helpful for distracting from the facts was CEO John Mack’s comment that “these [are] isolated losses by a small trading team in one part of the firm.” I don’t want to say we’re hoping that the entire team is going to get laid off, because we’re not, but should it come to that, wouldn’t it be nice if they could go out in style? You know what to do.

Morgan Stanley Swings to Loss Amid Mortgage-Related Woes [WSJ]

Not surprising given that John Mack used to work at a Gap, but:

“MS bonuses- a few of the high visibility/revenue guys were up as much as 20 percent but, broadly, most YE bonuses were -10 percent vs. 2006 for those in the highest tier in terms of performance appraisal. This applies to wealth management.”

Also helpful if you happen to know how to unwind a large amount of exposure to CDOs or hung bridge loans for reckless LBOs, though in no way necessary. But you must be Vietnamese. On this point they are unwavering. Not Vietnamese? Hit the bricks.

Morgan Stanley is now saying that there will definitely be a recession and there’s nothing you can do to stop it so you might as well just give up. We’re all going to die eventually, it’s just a matter of when. Related/unrelated? At MS’s IED party last night, “There was a slideshow on a large screen that contained awkward photos of associates and analysts (most people were not smiling)…a lot of Sean Paul…a MD walking around with a blinged out Santa hat giving his business card to anyone that would compliment his style…and one very sad analyst talking to the bartender about how even the low hanging fruit he hoping to score with wouldn’t give him the time of day.”

Morgan Stanley issues full US recession alert [Telegraph]
Recession Watch: Morgan Stanley Finally Sees Weakness [Alley Insider]