Lehman Brothers (LEH) is raising a big pile of cash. The brokerage firm, whose shares have been whipsawed in recent weeks amid rumors that it might come under attack from short-sellers questioning its liquidity and the strength of its balance sheet, said Monday afternoon it will sell 3 million convertible preferred shares. With the shares carrying a liquidation preference of $1,000 each, Lehman could raise $3 billion or more in the offering. The firm, which has stressed that it has a much stronger cash position than its rival Bear Stearns (BSC), said the proceeds will help bolster its capital and increase flexibility.

Lehman finance chief Erin Callan said the sale should help the firm reduce leverage, a much desired outcome in a market that has been tough on bond investors that overreached. “We also felt this was the right time as there was a window of opportunity in the market,” she said, “as we have received significant interest from several key institutional investors, who have been strong supporters of the firm over time.” Lehman doubters, take note: The firm is selling stock only because investors were asking for it.

Lehman Brothers (LEH) could bounce back Friday on the heels of an upgrade by Citi. Shares of the New York-based brokerage firm plunged 9% Thursday amid rumors that Lehman could, like Bear Stearns (BSC), face a renewed liquidity squeeze as investors flee risky assets. Lehman brushed the speculation off as “unfounded,” and on Friday Citi analyst Prashant Bhatia agreed, saying the firm has “ample liquidity” that will see it through any market downdrafts. He upgraded the stock to buy from hold, citing its attractive valuation and Lehman’s strong performance in the recently reported first quarter.

Indeed, Lehman shares have risen more than 90% from their March 17 panic low in the wake of Bear Stearns’ fire sale to JPMorgan as investors found relief in its stronger-than-expected first-quarter performance. Still, not everyone was wowed by the firm’s first-quarter numbers. Jesse Eisinger wrote last week in Portfolio that Lehman’s first-quarter balance sheet was festooned with red flags such as increasing leverage that could point to more problems ahead. While Bhatia predicts that “reality will trump fear,” for now it’s not absolutely clear how upbeat Lehman’s reality is.

Update: Lehman Brothers (LEH) is in for a long day. Shares of the brokerage firm slid 22% in early trading Monday even after Lehman repeated that it has enough cash to keep doing business.

“The Federal Reserve’s decision to create a lending facility for primary dealers and permit a broad range of investment grade securities to serve as collateral improves the liquidity picture and, from my perspective, takes the liquidity issue for the entire industry off the table,” CEO Richard S. Fuld Jr. said.

Earlier, shares of Lehman tumbled on reports that a big Asian bank asked traders not to do new transactions with Lehman. But the bank, DBS Holdings of Singapore, later told reporters that it continues to do transactions with Lehman. “It’s business as usual,” a bank spokesman told Reuters.

Nonetheless, investors are clearly concerned that Lehman will face a run like the one that brought down Bear Stearns (BSC) this weekend. Bear sold itself to JPMorgan Chase (JPM) for $2 a share, narrowly averting a bankruptcy filing. On Monday morning, all the brokerages were sharply lower, with Goldman Sachs (GS) down 6%, Morgan Stanley (MS) off 8% and Merrill Lynch (MER) down 9%.

Next to Bear Stears, Lehman is the smallest and least diversified brokerage firm on Wall Street, so there are worries that it will be the next firm to come under attack as firms that trade with Lehman pull back in a bid to protect themselves. Those concerns were intensified when UBS downgraded Lehman stock to neutral from buy on Monday, and analysts at ING speculated that Lehman may not play a big enough role in the markets to justify a Fed-backed bailout like the one at Bear Stearns.

On the bright side, Lehman raised $2 billion Friday in an unsecured credit line with a syndicate of 40 banks, and Moody’s reaffirmed its ratings on Lehman Monday. So there’s reason to hope the firm will weather the storm.

The near collapse of Bear Stearns (BSC) is weighing on rival Lehman Brothers (LEH). Lehman shares dropped 12% in heavy trading Friday after JPMorgan Chase (JPM), at the behest of the New York Fed, agreed to finance cash-strapped Bear for the next month. Lehman’s selloff came even as the firm said it had arranged a $2 billion credit line with a syndicate of banks.

But fears surrounding the near-death experience at Bear, down 47% in late afternoon action, overwhelmed the Lehman news. Bear’s plunge comes as big banks and brokerages pull back on lending amid a sharp decline in the value of all sorts of debt securities. With lenders declining to extend credit, heavily leveraged firms like Bear face the prospect of a classic run on the bank, in which demands for repayment substantially exceed the cash on hand, making the firm insolvent. There’s no sign Lehman is in that situation yet, but investors clearly sense trouble is brewing. The annual price of insuring against a debt default on $10 million in Lehman bonds rose 15% Friday to $465,000, Reuters reported.

Lehman Brothers (LEH) is swinging the ax. Lehman shares fell after CNBC reported the big investment bank will cut 5% of its workforce, or about 1,400 jobs. The news comes as Lehman prepares to report first-quarter results next Tuesday. Wall Street has been bracing for a round of bad news next week from banks including Lehman, Goldman Sachs (GS) and Bear Stearns (BSC), amid a sharp slowdown in dealmaking and a fearful turn in the credit markets. At Lehman, analysts expect first-quarter earnings to fall by more than half, to 91 cents a share from $1.96 a year ago. A particular area of concern at Lehman is the bank’s big commercial real estate loan book, which is expected to see a big writedown as property values decline. With revenue under pressure, Lehman is responding by cutting costs, in a painful process that will no doubt be repeated many times over on Wall Street in the next few months.

Stocks staggered out of the gate Thursday as central bankers failed to ease a severe credit crunch. Interest rates on some loans stayed at a seven-year high despite Wednesday’s high-profile global liquidity booster, Bloomberg reported. Fortune’s Peter Eavis had warned that the Fed’s bid to loosen up credit markets could backfire, and other market watchers were similarly skeptical, with some dubbing the worldwide effort “global coordinated panic.“

The panic led to a stampede out of financial stocks Thursday morning, as Lehman Brothers (LEH) dropped 2 percent in spite of better-than-expected earnings and bond insurer Security Capital (SCA) plunged 26 percent on worries that it won’t be able to raise enough capital to forestall a possible ratings downgrade. Even beloved Goldman Sachs (GS) saw its shares drop, in spite of a heartwarming report in the FT that CEO Lloyd Blankfein is looking at a $70 million payday this holiday season. That leads to a question that’s clearly on everyone’s mind: What will Ben Stein say?