Resolution and Friends Provident, the UK insurers that are working on an £8 billion merger of equals, are bracing themselves for a private equity buyer to try to break up their agreed deal.

Speculation mounted yesterday that JC Flowers, the American private investment firm, planned to combine with an overseas trade buyer to thwart the merger.

Friends Provident and Resolution confirmed yesterday that they were in advanced merger talks, fuelling expectation of a fresh private equity bid. A senior source in the insurance market said: “Private equity has got to have a look at this. They can’t not. It would be a no-brainer.”

Flowers has previously approached Standard Life, of the UK, and AXA, of France, to be partners in a potential takeover bid for Friends Provident, but it was rebuffed on both occasions. It is understood that neither insurer is eager to revisit a bid.

Shares in Friends soared by almost 8 per cent yesterday, rising 14p to 186.25p, as investors predicted that a rival bidder would emerge. Resolution rose only 1.3 per cent, up 8p at 637p.

Eamonn Flanagan, an insurance analyst for Shore Capital, said: “We were surprised that Friends Provident has given up so quickly and so meekly. However, this move puts the group firmly into play, and we suspect that Friends Provident will be subject to a counterbid before long.”

Talks aimed at combining Resolution and Friends into a FTSE 100 giant are at an advanced stage, with outline terms scheduled to be announced this week or early next week. Shares in Friends rose more than 4 per cent on Friday. The Times revealed on Saturday that the insurers were in talks. It is thought that the Financial Services Authority, the City regulator, will examine trading volumes for potential insider dealing. The FSA said that it examined unusual price movements or volumes ahead of significant deals “as a matter of routine”.

The two companies asserted yesterday that the merged insurance entity would create significant value for both sets of shareholders. Friends Provident is the UK’s fourth-largest insurer and Resolution is the biggest specialist manager of closed life funds.

Tim Young, of Collins Stewart, said: “Friends Provident was going nowhere at a rapid pace, and Resolution will – as it did with Britannic and R&SA’s UK life business – deliver significant value to shareholders.”

It is thought that the combined group will use the Friends Provident brand name to write new insurance business, but, where possible, merge its other books of business, particularly those “zombie funds” that have been closed to new policies.

Resolution capital is expected to be used to back Friends’ ambitious target of tripling new business profits to as much as £200 million by the end of next year. Friends, regarded as being increasingly capital-constrained, is thought to have been weeks away from a crunch £500 million bond issue to raise capital to help to fund the business.

The talks thrust to centre stage the future of Foreign & Colonial, the asset manager that is 52 per cent controlled by Friends. In 2005 F&C lost out on a £20 billion mandate to manage funds controlled by Resolution Asset Management.

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