Morgan Stanley reported better-than expected third-quarter profit on Wednesday with results bolstered by strong fixed income sales and trading revenue and improved investment banking underwriting results.

The profit stems three straight losing quarters as Morgan Stanley belatedly joins rivals like Goldman Sachs Group Inc in returning to the black after the collapse of the financial sector a year ago.

The New York-based firm reported net income for common shareholders of $498 million, or 38 cents a share. Analysts on average had forecast 27 cents a share, according to Thomson Reuters I/B/E/S.

Morgan Stanley shares were up 4 percent to $33.85 in premarket trading.

The firm reported consolidated net revenues of $8.7 billion in the quarter.

Scarred by the collapse that claimed competitors like Lehman Brothers, Morgan Stanley has played a more conservative hand this year and developed its brokerage business. Chief Financial Officer Colm Kelleher said the results were an affirmation of the strategy.

The feeling is that we are executing on a strategy, Kelleher said in an interview. It is not so much relief, but an affirmation.

Earnings in the 2008 third quarter were $7.7 billion, or $7.38 a share, boosted by a one-time accounting gain resulting from declines in the value of certain liabilities in the bank's portfolio.

The latest results include a loss of $900 million, or 36 cents a share, stemming from improvements in the firm's debt-related credit spreads. Writing up the firm's debt caused a loss of $2.3 billion in the second quarter.

Morgan Stanley stashed away about $5 billion for year-end bonuses during the third quarter, lifting its total for the year to $10.9 billion.

TOUGH COMPARISONS

Morgan Stanley has been dogged by comparisons to chief rival Goldman Sachs over the past year. Goldman last week reported a $3 billion profit in yet another blockbuster quarter.

As Goldman rebounded, Morgan Stanley executives have pleaded for patience as they intregrated the Morgan Stanley Smith Barney joint venture, creating the world's largest brokerage.

At least for this quarter, the management strategy and the business model are working and the stock is reflecting that, said Michael Holland, president of Holland & Co. You don't know how well they will be in succeeding in the future with this business model, but for now that is a very good performance in the quarter.

Morgan Stanley increased its risk in the quarter, upping its average value-at-risk on 95 percent of days to $118 million from $113 million in the second quarter. The biggest jump was in foreign exchange rate trading, which increased from $17 million to $25 million.

Chief executive John Mack was criticized for taking more risk during the frothiest part of the credit cycle, taking less risk when the financial sector crashed, and then keeping risk low when markets recovered. The upshot of these moves was that Morgan Stanley lost billions during the worst of the crisis, and missed out on chances to recover money later.

Mack will be replaced as CEO by co-president James Gorman on January 1 as Mack moves over to the role of chairman.

Many analysts viewed Gorman's appointment as CEO as evidence that Morgan Stanley is taking less trading risk-- Gorman is rooted in the wealth management business.

Morgan Stanley's earnings announcement comes the same week the firm said it was selling its selling its mutual fund unit to Invesco for $1.5 billion, as it looks to focus on higher-margin asset management businesses. Morgan Stanley received $500 million in cash in the deal and a 9.4 percent stake in Invesco.

Morgan Stanley is trying to turn around its asset management division, which has posted $2.64 billion losses since the start of 2008 through the second quarter.

Fixing the asset management business is just one of the big projects that Gorman will face. He must also integrate the company's retail brokerage business with Smith Barney, after Morgan Stanley paid $2.7 billion for a controlling stake of Citigroup's brokerage.

Kelleher said the integration is going smoothly and on time.

(Reporting by Steve Eder; editing by John Wallace)

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