Bank of America is in advanced talks to acquire Merrill Lynch for up to $38 billion (£21.2 billion) after walking away from talks over a rescue of Lehman Brothers.
In a day of frenzied activity in the embattled US banking sector, Barclays Bank also walked away from talks to rescue Lehman, although some analysts said it appeared to be a game of brinkmanship with the US Treasury.
The redrawing of the US investment banking map would have huge implications for London, where tens of thousands of bank workers could find themselves out of a job or working for new bosses.
Just hours after it emerged that BoA had ruled itself out of a move on Lehman, rumours emanated from Wall Street that the bank was discussing an all-share deal to buy beleagured Merrill Lynch for between $25 and $30 a share compared to Friday’s close of $17.05.
BoA, America’s second biggest bank by assets, has long harboured hopes of swallowing Merrill, but appeared to have cooled on the idea last year after scaling bank its investment banking operations.
The withdrawal of BoA and Barclays from the bidding for Lehman appears to leave the 158-year-old investment bank teetering on the brink of bankruptcy.
Barclays is understood to have told Henry Paulson, the US Treasury Secretary, that it was quitting the bailout talks because of two key obstacles: the lack of US government financial backing and the need for shareholders in Barclays to approve any deal — which could take weeks.
Many on Wall Street believe that Barclays is seeking to force the Treasury to offer funds and may return to the negotiating table.
If Mr Paulson and Tim Geithner, president of the New York Federal Reserve, cannot entice another bidder or persuade Barclays to return, Lehman could be forced into an orderly liquidation.
It is understood that Richard Fuld, the chairman and chief executive of Lehman, has appointed Weil, Gotshal & Mayes, the bankruptcy specialist to stand by.
BoA is believed to have walked away because US authorities refused to offer the kind of extensive credit facilities offered to JPMorgan Chase when it bailed out Bear Stearns in February.
Both the US Treasury and the Federal Reserve are unwilling to continue to bankroll failing banks, in part because of the unpopularity among the American electorate of such moves and also because taxpayers could not afford to continue to bail out other banks. Bear Stearns alone was propped up with $29 billion of federal funds.
Bob Diamond, chief executive of Barclays’ investment business, who was leading the talks on behalf of the bank with Mr Paulson, is thought to have wanted American authorities to financially back an acquisition or the creation of a so-called bad bank to wind down Lehman’s assets.
A spokesman for Barclays said: “The proposed transaction required a guarantee for the trading operations of Lehman Brothers that was potentially open-ended, and we were not willing to provide that guarantee.”
Lehman Brothers declined to comment.
The rescue talks between Barclays and the US Treasury at the weekend formed part of Mr Paulson’s race to seal some kind of transaction to secure the future of Lehman Brothers by the beginning of business on Monday.
On Friday night, regulators met in New York to consider the options for the investment bank, which is the most heavily exposed of all the Wall Street banks to toxic mortgage-backed securities. On Saturday Mr Paulson summoned the chief executives of all the leading banks, Mr Fuld and Mr Diamond to coax them into a rescue.
One proposal had been to slice Lehman into three companies – the asset management arm, the investment bank, and a so-called “bad” company that housed around $85 billion worth of Lehman’s mortgage-backed assets.
Mr Paulson had tried to persuade banks other than Barclays to inject capital into the bad company to prevent a fire sale of the assets and then sell the investment bank to another group such as Barclays or Bank of America.