Morgan Stanley still in deal talks

While the priority remains staying an independent Wall Street broker-dealer, Morgan Stanley continues multiple merger and investment discussions, the source said.

"Morgan Stanley is still having discussions on all fronts," the source said.

At the same time, the firm "feels like it is operating from a position of strength, that it can slow down the timetable and figure out which is the right opportunity to pursue," the source said. Morgan Stanley declined to comment.

In the past week, Morgan's stock plunged and its debt insurance prices surged on growing fear that even large broker-dealers could not weather the current crisis. A series of moves by U.S. officials to limit short sales and to sop up toxic bank assets sparked a rally in financial shares Thursday afternoon.

Morgan Stanley shares raised over 26 percent Friday to $28.44 a share -- though that was still down more than 32 percent from September 5, when worries about the Fannie Mae and Freddie Mac takeovers by the U.S. sank financial shares. At the close of Thursday trading, Morgan's shares had a record low valuation of 80 percent of reported book value.

Thursday's historic efforts by government agencies to halt the decline in financial industry stocks gave Morgan Stanley critical breathing room to sort out its next move, analysts said.

DEAL MORE PROBABLE
Merrill Lynch analyst Guy Moszkowski told clients that improving market conditions make a Wachovia deal "more probable" -- a day after he had dismissed the deal as unlikely.

Moszkowski contends the odds of a deal have now improved because Wachovia would be more inclined to follow through.

"Morgan Stanley shares have remained volatile, raising the urgency of the situation for Morgan and making it more attractive for Wachovia to do a deal," he wrote. "Also, Wachovia's share price has jumped, making it easier for such a transaction with Wachovia as buyer."

The cost of insuring $10 million of Morgan debt against default fell by $183,000 to $673,000 a year, according to CMA DataVision. That's a big improvement, but still indicates bond buyers are not totally at ease.

The situation also has improved for Wachovia, since the Treasury proposal to mop up risky assets could throw a lifeline to the country's fourth-largest commercial bank. Wachovia is saddled with $122 billion in distressed mortgage loans that the bank itself warned could generate some $14 billion in losses.

The dynamics of the deal have changed in other ways. Wachovia's market value soared to $41 billion, overtaking Morgan Stanley, now at roughly $31 billion.

A Wachovia merger also might include some twists such as spinning off the combined company's risk assets into a "bad bank" company.

That said, Morgan Stanley Chief Executive John Mack's efforts to strike this and other deals could still fall apart.

A senior China Investment Corp official this morning said Morgan Stanley and Goldman Sachs Group Inc could solve their problems independently.

The comment dampened speculation in the market that the state's investment fund would invest capital in Morgan Stanley. CIC in December bought a 9.9 percent stake for about $5 billion -- an investment that had lost half its value through Thursday.

Talks between the firm and the China continue, the person familiar with the matter said.

A number of analysts Friday released supportive research on Friday, telling clients that Morgan Stanley is strong enough to remain independent and that its shares were poised to surge from its closing price Thursday.

Goldman Sachs analyst William Tanona predicted Morgan Stanley shares could double over the next six to 12 months and said the firm was in no danger.

"While liquidity and funding issues may have plagued some of its peers, we believe Morgan has ample liquidity, no immediate funding requirements and access to a number of alternative funding sources if necessary," Tanona wrote.