The investment bank posted better-than-forecast fourth-quarter results largely thanks to greater cost cutting, including moves to slash 25 percent of its fixed income headcount to adapt to a protracted slump in bond trading.

Now Chief Executive James Gorman is focussing on ways to cut even more deeply, leaning on technology and increased outsourcing to cut another $1 billion in costs this year.

"They’re looking at the environment and have determined that they can’t get enough returns for shareholders through significant increases in banking or massive increases in assets under management," said Ryan Kelley, a portfolio manager at Hennessy Funds and a Morgan Stanley shareholder. "The best way to get there is through continued cost cuts."

Morgan Stanley plans to lean on technology and outsourcing to reach its latest cost-cutting target. Wall Street banks are grappling with regulations discouraging them from risky trades along with concern about China, oil prices, an uncertain interest rate climate and weak IPO activity.

Morgan Stanley's larger rival Goldman Sachs Group Inc (>> Goldman Sachs Group Inc), which faces similar issues, is due to report quarterly earnings on Wednesday.

"We enter 2016 with a continued focus on managing expenses across the firm," Gorman said in a statement.

Morgan Stanley's shares were up 2.5 percent in morning trading.

The Wall Street bank, which reported better-than-expected quarterly earnings and revenue, also set a return-on-equity target of 9 percent to 11 percent for 2017. The bank's RoE of 8.5 percent for 2015 missed Gorman's current target of 10 percent.

Morgan Stanley is cutting a quarter of the jobs at its fixed income business, revenue from which fell 8.2 percent in the fourth quarter.

Compensation expense dropped dramatically during the quarter to $3.7 billion including a severance expense, from $5.1 billion a year ago. In institutional securities, which includes banking and trading, compensation expense was 37 percent, below the bank’s goal of 39 percent.

Lower costs have also helped larger banks Citigroup Inc (>> Citigroup Inc), Bank of America Corp (>> Bank of America Corp) and JPMorgan Chase & Co (>> JPMorgan Chase & Co.) report quarterly profit increases in recent days.

Morgan Stanley's non-interest costs fell 41 percent and compensation costs fell by nearly a third.

Its after-tax legal bill stood at $2.9 billion in the fourth quarter of 2014 as it settled litigation related to mortgage-backed securities and crisis-era issues.

CORE NUMBERS

As its trading business suffers, the bank has been focussing on its less-volatile wealth management unit, which accounted for nearly half of its revenue in 2015.

Still, revenue from wealth management slipped 1.4 percent to $3.75 billion.

Morgan Stanley's adjusted net revenue fell 4.3 percent to $7.86 billion in the quarter ended Dec. 31 as revenue declined in every major business but one - equity sales and trading.

The firm has been moving key executives, including Ted Pick and Sam Kellie-Smith, to its fixed income division from its successful equities unit to facilitate better coordination between the two businesses.

"I think what we have is a temporary pressure on the core businesses ... We should see some rebound as we go into the first half of 2016," Vining Sparks analyst Marty Mosby said.

Morgan Stanley reported earnings of $753 million, or 39 cents per share, applicable to common shareholders, compared with a year-earlier loss.

Excluding items, the bank earned 43 cents per share.

Analysts on average had expected a profit of 33 cents per share and revenue of $7.59 billion, according to Thomson Reuters I/B/E/S.

Morgan Stanley's stock slumped 18 percent last year, the steepest fall among big U.S. banks.

(Reporting by Richa Naidu and Sudarshan Varadhan; additional reporting by Olivia Oran; Writing by Christian Plumb; Editing by Kirti Pandey and Nick Zieminski)

By Richa Naidu, Sudarshan Varadhan and Olivia Oran