Morgan Stanley talks to China's CIC, Wachovia: sources

By Joseph A. Giannone

NEW YORK (Reuters) - Morgan Stanley (MS.N), its shares and debt battered by anxious investors, is in talks to sell a larger equity stake to China Investment Corp at the same time it is in merger talks with Wachovia Corp WB.N and other banks, two people familiar with its plans said on Thursday.

Morgan Stanley, one of the two major Wall Street firms still independent after unprecedented upheaval this past week, is pursuing multiple tracks to help it weather a worsening storm in financial markets, the sources said.

The first priority remains staying independent by riding out the storm and urging regulators to address short selling activity. Mack blamed short sellers for hammering the firm's share price this week after Morgan Stanley reported stronger-than-expected earnings and progress bolstering the balance sheet.

Morgan shares had lost more than half their value this week before reports the U.S. Treasury may create a new Resolution Trust Co structure to acquire problem mortgages and real estate assets from ailing banks. That news sparked a rally in Morgan shares, which swung to close with a 3.7 percent gain after sinking as much as 46 percent earlier in the session.

In the meantime, the firm's executives have approached China Investment Corp, or CIC, about increasing its equity stake. CIC, a $200 billion sovereign wealth fund set up a year ago, acquired a 9.9 percent stake in Morgan Stanley for $5 billion in December.

That stake could rise to as much as 49 percent.

"Everything is on the table," one source said.

WACHOVIA DEAL

The firm is also engaged in merger talks with Wachovia Corp WB.N, a regional bank swamped by its $122 billion portfolio of adjustable rate mortgages. Wachovia has estimated the loans could generate more than $14 billion of losses.

Morgan is considering "innovative" approaches to a merger, such as spinning off Wachovia's troubled assets into a separate "bad bank" company.

The discussions began Wednesday night when Wachovia chief Robert Steel proposed a deal to Morgan CEO John Mack. Since then, the talks have progressed to a more formal stage.

The deal would combine Morgan Stanley with the fourth-largest commercial bank, which boasts a sprawling consumer business and one of the largest brokerage forces in the United States.

Morgan Stanley declined to comment whether it is engaged in deal talks. A spokeswoman said the firm is "focused on solutions" to address the falling stock price."

Mack and Steel both attended Duke University and serve on the North Carolina school's board of trustees. Mack, the son of a Lebanese immigrant, was raised in Mooresville, North Carolina, not far from Wachovia's headquarters in Charlotte.

Morgan Stanley also has pursued talks with a number of financial institutions this week, the source said.