The investment bank was also hurt for a second straight quarter by the improving value of its own debt. Morgan Stanley's trading profits and investment banking revenue, while strong, were unable to offset mounting charges during the quarter.
The bank said its net loss after payment of preferred dividends was $1.26 billion, or $1.10 per share, during the quarter ended June 30. The New York-based bank earned $1.06 billion, or $1.02 per share, during the same quarter last year.
Analysts polled by Thomson Reuters, on average, forecast a loss of 49 cents per share for the quarter.
Morgan Stanley said underwriting revenues rose 19 percent to $855 million during the quarter. As credit markets have improved, more companies have tapped equity and debt markets to raise much-needed capital. Like competitor Goldman Sachs, Morgan Stanley was able to take advantage of that pent-up demand for underwriting new offerings.
Revenue in Morgan Stanley's fixed income sales and trading division also rose. Revenue from the trading of interest rate, credit, currency and commodity products totaled $973 million in the second quarter, up 44 percent from a year earlier.
But charges took a toll on the company's profits. Without them, "core earnings swing quite significantly into the positive," said chief financial officer Colm Kelleher.
Morgan Stanley recorded $700 million in charges tied to losses on investments in real estate. Problems in the real estate market began in 2007 with the value of residential real estate tumbling and sales declining. Now problems have emerged in commercial real estate as well. Banks with continued exposure to investments in real estate, such as Morgan Stanley, have been forced to take losses on those investments as the market continues to weaken.
Those losses are likely to continue in future quarters, especially for commercial real estate, Kelleher said.
"We haven't seen signs of bottoming," Kelleher said of the commercial real estate market. However, Morgan Stanley's losses tied to real estate investments did decline from $1 billion during the first quarter.
Morgan Stanley's results were also hampered by an accounting rule related to the value of its debt. The rule requires companies, on paper, to record a charge to cover the additional cash it would need to meet its obligations when its debt is worth more.
Essentially, if Morgan Stanley had to buy its debt back at the end of the second quarter, it would have had to pay more for it than it would have a quarter earlier. So while the improving value of its debt means investors are more confident in its long-term prospects, it must take a charge because of that improving confidence.
That accounting rule reduced Morgan Stanley's earnings by $1.32 per share in the second quarter. Revenue was reduced by $2.3 billion because of the rule.
Kelleher said he could not predict if those charges will continue in future quarters. He did note, however, that Morgan Stanley's debt value has now moved in line with its biggest competitors. With investors more confident in the strength of the bank, any future changes would more likely be the result of investors' changing views on the financial services sector as a whole and not of Morgan Stanley specifically, Kelleher told The Associated Press.
Morgan Stanley also recorded an $850 million, or 74 cents per share, charge for repaying the money it received from the government under the Troubled Asset Relief Program. Last fall, amid the mushrooming credit crisis that led to the collapse of fellow investment bank Lehman Brothers Holdings Inc., the government provided hundreds of banks with loans to try and restart stagnant credit markets.
Last month, Morgan Stanley was one of 10 major banks that was approved to repay that loan. Morgan Stanley had received $10 billion as part of the government's $700 billion program.
"TARP served an incredibly useful purpose in October and November" because it was able to stabilize the market, Kelleher said. But, he noted, with credit markets having been restored after being nearly shut down, the funds no longer were needed.
Goldman and JPMorgan Chase & Co. were also among the other major banks that repaid TARP funds last month.
Shares of Morgan Stanley fell 41 cents to $27.15 in morning trading.