Citi and Morgan Stanley in brokerage talks

By Dan Wilchins and Jonathan Stempel

NEW YORK (Reuters) - Citigroup Inc is in advanced talks to sell its Smith Barney brokerage unit to Morgan Stanley, a person familiar with the matter said on Friday, in a move that would further dismantle the financial supermarket that has been bailed out by the U.S. government.

Under the deal being discussed, the two banks would set up a joint venture. Morgan Stanley would control it with a 51 percent stake and expect to buy Citi's 49 percent share over three to five years, the person said. Talks are "serious" and "advanced" but may still fall through. Both banks declined to comment.

Separately, former U.S. Treasury Secretary Robert Rubin resigned immediately as a senior counselor to New York-based Citigroup, following months of criticism of his performance, as the bank's sinking share price led to a government rescue. The 70-year-old Rubin will remain a director until the bank's annual meeting later this year. He joined Citigroup in 1999.

A combined brokerage would have more than 23,000 financial advisers before attrition, ranking as the world's largest retail brokerage, surpassing rivals Bank of America Corp and Wells Fargo & Co.

Citigroup ended September with 14,735 brokers, and Morgan Stanley ended November with 8,426. Last week, Bank of America bought Merrill Lynch & Co, and Wells Fargo bought Wachovia.

Citigroup could boost its capital levels by doing the deal, and Morgan Stanley could diversify its sources of revenue. The U.S. Federal Reserve is pressing the two banks to do a deal because of the potential benefits to both, CNBC reported on Friday.

Combining the two businesses could also help Morgan Stanley and Citigroup cut costs. Brokerages are expected to suffer this year as broad weakness in stock and bond markets globally weigh on trading volume.

NEW MORGAN STANLEY TIES FOR PANDIT