Just last week, Citi reached a deal to purchase the consumer banking operations of Wachovia for $2.2 billion or about $1 per share. That deal now appears dead. Instead, Wells Fargo will be purchasing the entire Wachovia organization, including the asset management and brokerage business for a higher price and without any government guarantess.

The NY Times reports:

"Under terms of the agreement, which has been approved by directors of each company, Wachovia shareholders will receive 0.1991 shares of Wells Fargo stock in exchange for each share of Wachovia stock. The transaction, based on Wells Fargo’s closing stock price of $35.16 on Thursday, is valued at $7 a share. Wachovia has almost 2.2 billion common shares outstanding. The agreement requires the approval of Wachovia shareholders and regulators."

For Wachovia shareholders, this is a far superior deal. It also provides a glimpse of how banks negotiate with one another. According to the WSJ, Wells Fargo was prepared to buy Wachovia last weekend for $20 billion and without any government support. It then abruptly withdrew its offer. Faced with a rating downgrade at the same time a chunk of debt was coming due, Wachovia scrambled to save itself and did a distressed deal with Citi. Wells Fargo then came back and offered $5 billion less, or $15.4 billion. Even at this lower price though, Wachovia shareholders have to be happy that they are now getting $7 per share versus the $1 per share offer from Citi. It's unclear how much Wachovia's asset management group and brokerage would have fetched for shareholders if sold on its own.

Wells Fargo, along with JP Morgan and Bank of America, now becomes one of the big three banks. Together, these institutions have 30% of the nation's deposits. From a rate standpoint, don't expect to see any of these banks offering BestCashCow style returns. These are McBanks, and they provide coverage, convenience, but not a great return. Consolidation will only decrease the pressure on them to offer rate competitive products.

The battle between Wells Fargo and Citi for Wachovia is over and Wells is the winner. Citi walked away citing concerns over Wachovia's loan portfolio. Wells gets to greatly expand its banking franchise but also inherits billions in bad loans.

For customers of Wachovia, the transition to Wells Fargo should be like any regular bank acquisition. Wachovia is offering some relatively high rates for a large bank including their 3.5% APY High Performance Money Market account and a 1 year CD that ranges anywhere from 4.10% APY to 4.30% APY depending on your state of residence. Both the money market account rate and the 1 year cd account rate are competitive.

As we saw with Bank of America's purchase of Countrywide, and Chase's purchase of WaMu, these competitive rates generally don't last long. Look for Wells to lower them in the next couple of months, if not sooner.

Was this a good deal for Wells? In the plus column Wells gains control of $448 billion in deposits in 21 states for the low price of $12 billion. On the minus column it inherits Wachovia's $498 billion loan portfolio, which includes about $122 billion of option adjustable-rate mortgages. These option adjustable-rate-mortgages have been defaulting at high levels and analysts estimate as many as $40 billion could go bad. The number could climb higher if the economy continues to deteriorate.

I'd have to assume Wells has had a chance to take a look at Wachovia's loan portfolio and feels comfortable with the risk they are taking. But if the economy continues to deteriorate they could be on the hook for more than they originally estimated. Overall though, I think Wells got a pretty good deal and now becomes the largest bank by branches in the United States.

Here is Morgan Stanley's 52 week stock chart:

This is what happens when massive leverage goes in the wrong direction. It is like a freight train barreling out of control down the tracks. Marketwatch is reporting that creditors are already running from Morgan.

Marketwatch reports:

"Shares are now down 77% to a 10-year low. The bank is under pressure from counterparties many of whom are calling in their loans. Financing has dried up."

Bloomberg has the following quote:

"The analogy is a snowball rolling down a mountain; the mass needed to stop that negative momentum increases as that snowball picks up speed and size,'' Egan-Jones's Sean Egan said in a phone interview today. ``Perception trumps reality. They need a massive injection to stop the slide and hopefully they don't commit the Bear Stearns or Lehman mistake.''

Morgan Stanley is supposed to be receiving $9 billion in capital on Tuesday from Japan's Mitsubishi UFJ Financial Group Inc. in exchange for 20% of the company. Many are now wondering if Morgan Stanley will make it to Tuesday and whether the $9 billion will be enough.

Let's hope it does.