For a company on the giving end of a $40 billion acquisition, shares of Phelps Dodge ( PD) are acting wacky.

Last week, the copper mining giant announced a three-way merger with Canadian nickel miners Inco ( N) and Falconbridge ( FAL). In the ambitious transaction, Phelps Dodge will be the acquirer, with Inco first swallowing Falconbridge and Phelps then gobbling up Inco using a mix of cash and stock.

As often happens in dilutive mergers, shares of the acquirer dropped on the news, falling 9.5% in the three days following the June 26 announcement to $75.05. Most observers believed the hefty 22% premium for the purchase of Inco was the reason for the price drop.

Then shares of Phelps began to do the unexpected: They rallied. On July 3, Phelps closed at $83.67, up 11% from its post-deal low and even higher than before the deal was announced. At last check, shares were trading at $82.12, about the same as its predeal close.

Why the turnaround? Market sources suggested a number of possible reasons. Certainly, a broad lift in commodity prices after the Federal Reserve's dovish comments last week helped stabilize the price. Shares in other metals producers have risen, including BHP ( BHP), which is up 6.8% in a week. Meanwhile, shares of Inco and Falconbridge are both up about 4%.

An alternate theory holds that traders are scooping up Phelps Dodge for a different reason: They believe the deal is in trouble. If the deal dies, shares of the copper mining company won't incur the dilution that would occur from making the acquisitions. That, in turn, could leave Phelps vulnerable to a takeover itself.

Concerns about the deal's viability have prevented traders from aggressively shorting shares of Phelps Dodge, say market sources who declined to be identified.

While no clear-cut evidence has surfaced that the deal is in trouble, reasons for skepticism abound. From the outset, certain large shareholders reacted negatively to Phelps Dodge' cross-border mega-merger. The copper giant's management got a rude reception last week in New York during a meeting with a group of institutional investors.

People who attended the meeting say a top portfolio manager with Lehman Brothers' ( LEH) Neuberger Berman asset management group loudly denounced the three-way merger, calling it a bad move for Phelps Dodge shareholders. S. Basu Mullick, the manager of Neuberger's $2.1 billion Partners Fund, argued the deal would add too much debt to Phelps Dodge's balance sheet and be dilutive to future earnings, attendees told Neuberger Berman is uncomfortable with the amount of debt being used in the acquisition, according to the sources.

Atticus Capital, a hedge fund that owns 9.9% of the company's stock, also questioned the merger last week, saying that the fund was "not convinced on the merits of an acquisition of Inco and Falconbridge." While Atticus hasn't actively opposed the merger and its next step is still unclear, the firm's wait-and-see attitude has left the investors anxious.

Meanwhile, rumors have swirled that opposition to the transaction is about to become more formidable. Traders have speculated that other activists spy an opportunity to press an austerity program at Phelps Dodge like those designed for Kerr-McGee ( KMG) and Mylan Labs ( MYL) last year by Carl Icahn. Indeed, some of the rumors -- none of them confirmed -- hold that Icahn himself is eying a Phelps Dodge stake.

Other activists are already on the scene. Atticus fits the bill. It made its name this spring pulling strings in the stock exchange merger drama involving NYSE Group ( NYX), Euronext and Deutsche Boerse. Activist Dan Loeb's fund Third Point Capital already owns a $45 million stake in Phelps Dodge.

Representatives from Icahn Associates and Third Point Capital were unavailable for comment.

To be sure, many of Phelps Dodge's big institutional investors support the deal. According to some sources who attended a meeting in Boston last week with Phelps executives, a number of big shareholders are slowly getting on board. It's entirely conceivable that the rally in Phelps' shares is a sign investors are buying into the wisdom of the marriage of a giant copper producer with two nickel ore miners.

Opponents of the deal still have a lot of obstacles to overcome, even if more activists do show up to fight the merger. One huge hurdle is Wall Street firm Morgan Stanley ( MS), the fourth-largest Phelps Dodge shareholder, according to recent filings, with a $605 million stake.

Morgan Stanley has a big stake in seeing the merger work. The firm is not only a major Phelps shareholder, but also the adviser to Inco on the transaction. According to a merger proxy statement filed on Thursday, Morgan Stanley's investment bankers were the driving force behind the three-way deal.

The filing shows that in mid-May, Ramiro Peru, the CFO of Phelps Dodge, called representatives at Morgan Stanley and told Inco's advisers that the firm would be "open to discussing how it might assist Inco to respond to the hostile bid for Inco made by rival firm Teck Cominco." At the time, Inco and Falconbridge were both fending off suitors of their own, and Phelps Dodge offered itself as a so-called white knight to Inco. The following week, a representative at Morgan Stanley called Peru back and suggested the combination of Inco, Falconbridge and Phelps Dodge.

With Morgan Stanley as both the deal's engineer and as one of the largest shareholders, it is unlikely to take a stand against the deal's completion.
Simon Constable contributed to this report.