Morgan Stanley is in preliminary merger talks with Wachovia, the troubled regional lender and is exploring other potential deals in an effort to avoid becoming the next victim of the credit crunch.

News of Wachovia’s approach to Morgan Stanley came after the shares of both Morgan Stanley and Goldman Sachs plunged and the cost of insuring their debt rose sharply – a sign of waning investor confidence in Wall Street’s last two large independent investment banks.

Washington Mutual, another ailing regional lender, is also looking to sell itself and has hired Goldman to run an auction, according to people close to the situation.

The investment bank has approached a number of banks including Citigroup, JPMorgan Chase and Wells Fargo but it is unclear whether rivals would bid for a company that has billions of bad assets on its balance sheet.

The collapse of Lehman Brothers, which filed for bankruptcy at the weekend, has shifted investor attention to Morgan Stanley and Goldman amid fears that standalone investment banks cannot survive the current market convulsions.

Financial Times, Daily Telegraph, The Independent