From Marketwatch:

The most acute contagion from
the liquidity disease afflicting Bear Stearns today appears to be
festering at Lehman Brothers, which joins fellow brokerages in
reporting earnings next week. New jitters about Lehman's financial
health came in the form of news in its credit default swaps, which
reportedly widened by 65 basis points this morning in the immediate
wake of the Bear Stearns news. The development sent implied volatility
in Lehman Brothers options more than 76% higher to 113.8%, with heavy
put buying in the March contract at strikes 35, 40 and 45 as the mad
rush for protection against further downside drama in its share price
appears more or less unmitigated.

My posistion in
Lehman is very light because I have been too stingy to overpay for the
options and did not go in with a naked short. Yet, I noticed that many
of the puts were trading below their theoretical value. Interesting!

Remember, at least according to Bear Stearns, this is how the run on the bank started. Rumor spawned into reality. There is reason for rumor at both banks though since they are numbers 1 and 2 on the street in MBS underwriting and neither are true banks in the sense that they cannot go to the Fed's discount window for access to capital. If the put action piles up on Lehman, I can see this daisy chain effect happening when no one will want to stand as their counterparty either and their CDS spreads get blown out.

If it happens to MS, there will be a big problem due to the amound of inherent counterparty risk and leverage that they sport.