Stocks headed for higher open on Monday as investors took reports that Washington could take a bigger stake in Citigroup as the surest sign yet that it is ready to avert further paralysis of the financial system.

A report in the Wall Street Journal said the U.S. government may end up holding as much as 40 percent of Citigroup's common stock.

Last week shares of Citigroup and Bank of America slid sharply on uncertainty about how the Obama administration would stabilize the troubled banking sector.

But before the bell, Citigroup shares rose 10.3 percent to $2.15, while Bank of America shares gained 12.4 percent to $4.26, and JPMorgan shares climbed 4.2 percent to $20.74.

The Financial Select Sector SPDR , an exchange-traded fund which tracks the performance of stocks in the Standard & Poor's 500 financials group, jumped almost 4 percent.

The story is about what's going to save the financial system, not what's going to save the stocks of Citigroup, Bank of America. This is not a celebration of the stocks, said Art Hogan, chief market analyst at Jefferies & Co in Boston.

The government doesn't want to do this. This isn't the government's strong arm. This is government looking into Citigroup, saying what is the best way to keep the banks alive, not the stocks alive. That's the important part, I don't think the government cares about the common equity.

S&P 500 futures rose 9.30 points, and were above fair value, a formula that evaluates pricing by taking into account interest rates, dividends and time to expiration on the contract. Dow Jones industrial average futures gained 88 points, and Nasdaq 100 futures rose 12 points.

U.S. regulators, including the Treasury Department and the Federal Reserve, said in a statement before the bell the U.S. government stands firmly behind the banking system. They also said that they will ensure banks have capital and the liquidity to provide credit needed to restore economic growth.

Investors had fretted about the government nationalizing the major banks, sparking a sell-off that had the benchmark S&P 500 within striking distance of breaking through three-month lows and led the Dow to close at a 6-1/2-year low on Friday.

Instead of pumping fresh money into Citigroup, the government could convert a big chunk of the $45 billion in preferred shares it bought last year, raising its holding to as much as 40 percent, according to the Journal.

Citigroup was down 22 percent on Friday. The damage is already priced in. If the government's move is dilutive, the dilution has been priced in and overpriced in, added Hogan.

(Editing by James Dalgleish)