LEHMAN BROTHERS 
By By Dan Wilchins and Glenn Somerville
So far this year, the government has sponsored rescues of Lehman rival Bear Stearns and mortgage lenders Freddie Mac
But this time, Treasury Secretary Henry Paulson is adamant that federal funds not be used for a bailout, a source familiar with his thinking said on Friday.
The talks on Saturday ended without an announcement, but the final outcome could include hiving off Lehman's bad assets into a "bad bank," in which rival banks would acquire stakes, or even allowing it to file for bankruptcy, people briefed on the matter told Reuters earlier.
It's a fine balancing act for Paulson and the Federal Reserve.
They don't want to be accused of encouraging excessive risk-taking by bailing out another yet another investment bank. But they also cannot afford to let a blow-up of Lehman paralyze the financial system and deepen the credit crisis.
Lehman Chief Executive Dick Fuld has looked at selling the entire company to banks including Bank of America Corp
The banks are reluctant to buy the 158-year-old firm without government backing similar to that received by JPMorgan when it took over Bear Stearns in March, media reports said.
The Wall Street Journal reported that Bank of America was cooling on toward a Lehman deal.
NEXT VICTIMS?
Federal Reserve Bank of New York President Tim Geithner -- flanked by Paulson and Securities and Exchange Commission Chairman Christopher Cox -- told the banks their own firms could be the next victims of the credit crunch if they didn't work together on a Lehman solution, the New York Times said.
The CEOs of Goldman Sachs Group
Late Saturday afternoon JPMorgan CEO Jamie Dimon, Merrill CEO John Thain and Citi CEO Vikram Pandit were seen leaving the New York Fed's headquarters in downtown Manhattan in separate cars within minutes of each other.
A spokesman for the New York Fed confirmed that the meeting had broken up and was to continue on Sunday.
Earlier, about 100 people from the regulator and several banks had been in the building, thrashing out possible solutions for Lehman.
The Financial Times, which said a final solution to the Lehman crisis was more likely to come together on Sunday, said many banks were resisting the idea of investing in Lehman's troubled assets.
Market participants are unclear about how traumatic a Lehman collapse would be. Some wonder if faith will erode in all broker-dealers, but others argue that traders have had months to reduce their exposure to Lehman and demand more collateral, and that any impact would be manageable.
Goldman Sachs, Citigroup, JPMorgan, Lehman, Merrill, and Morgan Stanley declined to comment.
'SHORT ON CAPITAL'
With LTCM, major banks each contributed to a $3.65 billion bailout of the hedge fund, allowing it to be wound down in an orderly way.
But this time may be different. The capital of many top banks is already strained by the credit crisis, making them reluctant to fork over funds to help Lehman, whose problems are largely a result of bad bets on the U.S. mortgage market.
"The big concern here is, that the system is short on capital in a big way," said Dan Alpert, banker at Westwood Capital in New York.
"That's a problem--there could be another half a trillion dollars in writedowns, and you have to find that somewhere."
Also, while LTCM was a client of most Wall Street firms, Lehman is a competitor.
"I'm not sure why Goldman Sachs would want to keep Lehman in business," said Charles Peabody, analyst at independent research firm Portales Partners in New York.
He called a "pre-packaged bankruptcy" the best possible scenario for Lehman since it would keep the bank's broker dealer operating subsidiary intact even if largely wiping out equity holders and hurting bondholders.
Lehman has hired law firm Weil Gotshal & Manges to prepare a potential bankruptcy filing, the Wall Street Journal reported, citing a person familiar with the matter.
Underscoring the markets' fragility, Merrill's shares tumbled 12 percent on Friday, while those of insurer American International Group Inc
Washington Mutual Inc, the largest savings and loan, lost 3.5 percent, bringing its decline so far this year to 80 percent.
COLLATERAL CALL
All three companies have varying degrees of exposure to the mortgages and other toxic assets that appear to have been Lehman's undoing.
Lehman has about $46 billion of commercial and residential real estate on its books.
Although the bank has reduced its leverage, or debt relative to assets, it still has about $600 billion of assets supported by some $30 billion of equity, meaning the value of its assets need only decline by 5 percent to make the company worthless.
In a world where financial institutions are reducing their leverage globally, prices for many different kinds of assets are falling.
One key source of pressure on Lehman is its debt ratings.
All three rating agencies said ratings cuts for Lehman were a possibility, as confidence in the firm erodes.
Moody's Investors Service said on Wednesday that Lehman must enter a "strategic transaction with a stronger financial partner" to avoid having its ratings cut to near-junk levels.
Such a ratings cut would make it difficult for Lehman to compete in businesses such as long-term interest-rate derivatives. Ratings downgrades could force the firm to post billions of dollars of additional collateral with its trading partners, further straining the bank's balance sheet.
Germany's finance minister said on Saturday he expected a solution for Lehman by Monday, as European policymakers worried about the market impact of the firm's woes.
Worries about Lehman were also heard on the presidential campaign trail, where top economic advisers to Democratic candidate Barack Obama and Republican candidate John McCain argued for a private solution to Lehman's problems.
(Additional reporting by Megan Davies, Phil Wahba and Juan Lagorio in New York, Jeff Mason, Caren Bohan and Richard Cowan in Washington and Paul Carrell in Nice, France)
(Writing by Christian Plumb; Editing by Ted Kerr)
