Even as Facebook's shares dropped, causing losses for regular investors, Morgan and other underwriters of the company's IPO likely racked up big profits trading the social media company's shares.
"We think Morgan has done pretty well on the deal," says a person at a bank that was one of Facebook's other underwriters. "Reputation of the bank aside, Facebook hasn't been a bad trade for Morgan."
IPO experts say what Morgan and Facebook's other underwriters likely did is a common, though little understood outside of IPO circles, practice on Wall Street.
The trading itself doesn't appear to have broken any rules. It was even disclosed in Facebook's prospectus.
Nonetheless, the fact that Morgan profited as Facebook's stock sank raises more questions for the bank at a time when it's facing increasing scrutiny for how it handled the IPO.
Regulators are looking into whether analysts at Morgan and other underwriters warned some clients but not others about problems at Facebook shortly before the IPO. Investors are suing as well.
Here's how Morgan likely booked a profit on Facebook's fall: Investment bankers typically sell 15% more shares in an IPO than they actually have.
For Facebook, the difference was about 63 million shares. How can they do that? Included in every IPO deal is an agreement that gives underwriters the ability to buy more stock from the company at a slight discount to the IPO price.
So if the price rises after the offering, the underwriters can buy the shares from the company that they have promised to other investors, but don't actually have, and book a small profit. That's what typically happens.
But, as we all know, that's not what happened in Facebook's IPO. The stock dropped.
As a result, the underwriters were able to pick up shares they didn't have in the market, rather than buying them from the company, at lower and lower prices.
In effect, the underwriters were short the stock. And like all short trades, the lower the price you buy the stock back at, the more profit you make.
Morgan, as the lead underwriter on the deal, sold the majority of Facebook's shares, so it booked the majority of the trading profit.
How much did Morgan make? From the outside, it's impossible to know.
Facebook's shares hit $31 on Tuesday. If Morgan and the other underwriters bought back every share they had sold at that price, the Wall Street banks would have pocketed nearly $450 million. And that's on top of the roughly $170 million they split in underwriting fees on the deal.
Much of those fees went to Morgan as well. But it's likely they didn't make nearly that much.
Many have speculated that Morgan and the other underwriters bought shares on Friday at $38, Facebook's IPO price, to support the stock.