A source familiar with the matter said on Tuesday that Amanda Staveley, a businesswoman notable for her Middle Eastern connections, was advising the emirate's rulers.

"The talks have been going on for six months, and nothing is likely to materialize for the next few months," the source said, adding that Abu Dhabi could end up with a stake of more than a third, though it has not decided which of its entities would hold the stake.

Staveley played a prominent role in Abu Dhabi royal Sheikh Mansour bin Zayed al-Nahayan's 2008 investment in another British bank, Barclays (BARC.L).

The Financial Times reported on Wednesday that Abu Dhabi investors had discussed a 10 billion pound ($16 billion) investment in RBS.

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A senior banker told Reuters on Tuesday that the oil-rich emirate's sovereign wealth funds were not involved in talks at this stage.

"It's happening higher up," the banker said, adding that a deal could fall apart on price grounds. Two other banking sources also said that a deal, if it happened, would be struck at a government-to-government level.

"Abu Dhabi is always talking to parties to invest, including RBS. Whether it will materialize or not is too early to say," a source close to the royal family said on condition of anonymity.

A stake buy by Abu Dhabi would be the first move on a large financial asset by Gulf investors since the 2008 financial crisis, when regional royals and sovereign funds bought into Citigroup (C.N), Credit Suisse (CSGN.VX) and Barclays.

An Abu Dhabi government official declined to comment.

Shares in RBS, in which the British government took an 83 percent stake in 2008, closed at 28.67 pence on Tuesday.

The senior banker said he did not expect a stake to be sold at a price higher than the market level.

A deal at that price would leave British taxpayers nursing billions of pounds of losses, given the average price of 49.9 pence the government paid for its stake.

"During the whole euro crisis, it's been interesting to see how the Gulf sovereign wealth funds have generally stayed away from making a move. Maybe now that things have settled down a little, there could be a shift in that thinking," said David Butter, an independent Middle East analyst.

The FT cited people close to the discussions as saying talks have taken place over the course of the last three years into a potential investment in RBS and Britain's other big part-nationalized banks, Lloyds (LLOY.L).

Abu Dhabi investors could invest up to 5 billion pounds in RBS stock -- potentially equivalent to a 14 percent equity stake, the FT said. The remainder would be injected as contingent capital.

Neither RBS nor Lloyd's could be reached immediately for comment.

STRONG TIES

Gulf investors have historically had a penchant for British assets, piling into London real estate and buying up trophy assets such as the Harrods department store.

"There's a long-standing strategic relationship between Britain and Abu Dhabi, and they come to Abu Dhabi because of that," said Mohammed Ali Yasin, an Abu Dhabi-based market analyst. "If this deal does go through, it would be more about Abu Dhabi helping the UK, rather than a plan to invest in the banks in Europe or Britain."

Some of these investments have paid off handsomely. Abu Dhabi made about 3 billion pounds after investing in Barclays during the financial crisis, in a complex deal that helped the bank avoid a state bailout.

"If they can turn their investment in RBS into anything like the returns they had on their Barclays shareholding, they will do very well out of it, which in turn should be to the benefit of the wider British economy," said Simon Denham, chief executive of spread-betters Capital Spreads.

Its investment in Citigroup (C.N), however, remains a sore point. The emirate's main sovereign wealth fund went to an arbitration panel to get the deal scrapped or get paid more than $4 billion in damages. The panel ruled against it, a decision it has appealed against.

RBS CEO Stephen Hester is three years into a five-year turnaround plan that he has dubbed the biggest-ever bank restructuring.

RBS lost 2 billion pounds last year, its fourth straight annual loss, pushing back the time it is expected to deliver returns for investors.

That renewed calls for Britain to consider kick-starting the sale of the stake at a loss to cut growing political interference - mostly on lending and pay - and boost the appeal of the bank for private investors.

"We will start returning the stake to the private sector when it offers value for money to the taxpayer," a British Treasury official told the Financial Times on Monday. "The share price is not near that now."

Britain also holds a 41-percent stake in Lloyds Banking Group (LLOY.L). It is sitting on a 10 billion pound loss on that 20 billion pound rescue.

(Additional reporting by Dinesh Nair, Amran Abocar, Sudip Kar-Gupta, Rachna Uppal and Praveen Menon; Writing by Sitaraman Shankar; Editing by Reed Stevenson and Will Waterman)

• A Permanent Economic Emergency