Morgan Stanley reaches settlement with bond insurer MBIA

Morgan Stanley agreed to give up insurance claims against MBIA Inc. in exchange for a $1.1-billion payment from the ailing insurer, ending a two-year legal fight over guarantees on mortgage bonds.

The deal, announced Tuesday, is the latest move by Morgan Stanley Chief Executive James Gorman to clear away vestiges of the financial crisis and put the Wall Street bank on a more stable path.

The settlement will cause Morgan Stanley to take a $1.2-billion charge in the fourth quarter after accounting for a tax benefit, but it will also remove risky assets from the company’s balance sheet that have led to big swings in its quarterly earnings the past four years.

Additionally, the deal will shore up Morgan Stanley’s capital levels under tougher rules that come into effect in 2013.

The settlement stems from credit-default swaps that Morgan Stanley had entered with MBIA several years ago to protect against losses on mortgage bonds.

MBIA, a bond insurer, historically focused on municipal bonds but as the U.S. real-estate market heated up last decade, it sold large numbers of credit-default swaps on mortgage-backed securities and other structured finance products.

MBIA’s bets on credit-default swaps started souring as the financial crisis ramped up, forcing regulators to split the insurer into a municipal guarantee business and a structured finance unit.