* Egan Jones threatens downgrade without capital raise
* Says Jefferies should also sell $5 bln in assets
* Shares off 1.2 percent
Nov 22 (Reuters) - Jefferies Group Inc needs to raise $1 billion in equity capital and sell $5 billion in assets to avoid another downgrade by Egan Jones Rating Co, the ratings agency said in a note on Tuesday.
In its report, Egan Jones said Jefferies' rating is "unsustainable" because its debt-to-capital ratio, at over 90 percent, is much higher than other mid-size brokerage firms and closer to the level of Goldman Sachs Group Inc and Morgan Stanley , whose ratings and bond prices benefit from higher perceived levels of government support.
"We will cut without a major deleveraging," the agency said.
A further cut to Egan Jones' current BBB- rating on Jefferies would put the company's bonds in junk territory.
Other major ratings agencies rate Jefferies' long-term debt at one notch above Egan Jones' current rating with a stable outlook, according to spokesmen for Moody's, Standard & Poor's and Fitch Ratings.
Egan Jones downgraded Jefferies to a hair above junk shortly after the bankruptcy of competitor MF Global Holdings Ltd on Oct. 31.
Egan Jones argued that Jefferies, like its competitor, was over-exposed to European sovereign debt and too reliant on short-term funding, contentions the company has since fought strenuously to discredit.
Top Jefferies executives said in a letter on Monday, for example, that Egan Jones' analysis did not factor in hedges that reduced the bank's net exposure to bonds of Greece, Ireland, Italy, Portugal and Spain.
The company also reduced its holdings of those bonds by nearly 75 percent since early November, with a net short position of $134 million as of Monday morning. It has also taken the unusual step of releasing identification numbers for the securities it holds in that portfolio as part of a transparency campaign to shore up investor confidence.
Jefferies spokesman Richard Khaleel declined to comment about the Egan Jones report on Tuesday, as well as a report on the web site of Fox Business Network that suggested Jefferies Chief Executive Richard Handler is considering selling the business to a larger rival. The report was attributed to anonymous sources.
Shares of the New York-based investment bank were down 1.2 percent to $10.08 in late afternoon trading. Jefferies' stock has fallen 23 percent since MF Global's bankruptcy.