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Wachovia, Morgan to scrap talks of merger?

Charlotte-based Wachovia Corp. and New York investment bank Morgan Stanley were “deep in discussions” about a merger Sunday, the Wall Street Journal reported, amid continued pressure on the business model of traditional investment banks.

The talks came as the Federal Reserve approved a request Sunday by the last two major standalone investment banks – Goldman Sachs and Morgan Stanley – to change their status to bank holding companies. This change would let the firms start commercial banks that can take deposits, a more stable source of funding than the short-term financing they currently rely on. The Financial Times, however, reported late Sunday that the talks between Wachovia and Morgan Stanley were on indefinite hold and could be scrapped this week, citing people familiar with the situation.

Wall Street is undergoing a radical makeover in just a few days.

Last week, Lehman Brothers filed for bankruptcy protection and Merrill Lynch jumped into a marriage with Charlotte's Bank of America.

The faltering of these firms has put pressure on the shares of Morgan Stanley and Goldman Sachs. Treasury Secretary Henry Paulson's plan to buy up $700 billion in distressed mortgage-related assets rallied financial stocks Friday, but Morgan still faces pressure to do a deal, the Journal reported, citing people familiar with the matter.

Morgan Stanley is also considering selling a large stake in the potential merged company to China Investment Corp., an arm of the Chinese government, according to the Journal. Paulson, who worked with Wachovia CEO Bob Steel at the U.S. Treasury and at Goldman, has encouraged Morgan Stanley and his former employer to forge deals soon, the Journal said.

Wachovia spokeswoman Christy Phillips-Brown declined comment. Morgan Stanley did not immediately provide comment.

While Morgan Stanley may be in more immediate stress, Wachovia doesn't come into a potential merger in exactly robust health.

The company is weighed down by a troubled $122 billion mortgage portfolio that it inherited in its 2006 Golden West Financial acquisition. Paulson's plan might help it shed some of these assets, but the proposal will need congressional approval.

As of Friday, Wachovia, a major Charlotte employer, was the larger company by market value at $40 billion, compared with $30 billion for Morgan Stanley.

The decision by Morgan and Goldman Sachs to get approval from the Fed to change their status represented another dramatic development in one of the most turbulent periods in Wall Street history. In the surprise announcement late Sunday, the central bank said that to provide increased funding support to the two institutions during the transition period, they would be allowed to get short-term loans from the Federal Reserve Bank of New York against various types of collateral.

Morgan Stanley CEO John Mack said in a statement: “This new bank holding structure will ensure that Morgan Stanley is in the strongest possible position – with the stability and flexibility to seize opportunities in the rapidly changing financial marketplace.”

The Associated Press contributed.
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