Pair abandon investment banking model

By Kevin Drawbaugh and Mark Felsenthal

WASHINGTON (Reuters) - Goldman Sachs and Morgan Stanley sought shelter with the Federal Reserve to survive a financial storm that has destroyed their rivals, effectively killing off the Wall Street investment banking model of the past two decades.

The move is Washington's latest effort to restore calm to chaotic markets and follows frantic talks between the Bush administration and Congress on a $700 billion bailout to prevent the crisis from pushing the economy into severe recession.

By agreeing to much tighter Fed regulation as bank holding companies, Goldman and Morgan Stanley moved to avoid the fate of rivals that either collapsed or were taken over in the worst financial crisis to sweep Wall Street since the Great Depression.

U.S. stock futures gained on the news but were still indicating a lower open on uncertainty over details of the bailout, cobbled together last week after panic-stricken investors drove Lehman Brothers to bankruptcy, Merrill Lynch into the arms of Bank of America and insurer AIG to nationalisation.

With Bear Stearns collapsing earlier this year, Goldman (GS.N) and Morgan Stanley (MS.N) were the last of the big five investment banks that shaped 20 years of Wall Street history, partly by taking greater risks than their Fed-regulated rivals were allowed to.

In return for tighter regulation, Goldman and Morgan Stanley gain greater access to central bank funds and will find it easier for them to buy retail banks.

"It creates a perception of greater safety and supervision," said Chip MacDonald, mergers partner at law firm Jones Day.

After the Fed move, a mooted merger with the banking group Wachovia Corp. WB.N was no longer Morgan Stanley's priority, a person familiar with negotiations said.