RICHMOND, AUG. 7 -- The Virginia Retirement System, which played a pivotal role in killing last winter's proposed merger of the CSX and RF&P railroads, has substantially increased its share of the RF&P, a move that has fanned speculation that a new deal between the two firms may be in the offing.

The decision by the state government's $11 billion pension fund to add more than 1.27 million shares of Richmond, Fredericksburg & Potomac stock to its portfolio reflects a belief that the railroad's shares will be worth far more in the future than they are now, Mark T. Finn, chairman of the system's investment committee, said.

Finn's announcement is the latest twist in the financial and political drama over the future of RF&P, a small railroad that owns the Potomac Yard in Arlington and Alexandria, potentially one of the most lucrative development sites in the Washington area.

CSX's offer to take over the smaller line collapsed last winter after Gov. L. Douglas Wilder and his appointees to the pension fund board -- which then controlled about 20 percent of the RF&P stock and now owns almost 30 percent -- expressed skepticism about the fairness of the CSX proposal. Questions about the value of the Potomac Yard were at the heart of the debate.

The retirement board is buying the bulk of its new shares from another major railroad and RF&P shareholder, Norfolk Southern Corp., for the same price of $34.50 a share that CSX offered in its failed proposal. Other shares were bought over the counter for less than that, officials said.

RF&P stock closed today at 31.75.

"The stock is substantially undervalued," Finn said. "We believe RF&P represents an outstanding long-term value."

Finn said that "speculating in the short term wouldn't be a smart thing for me to do," but added that the logic of a merger from CSX's perspective makes another deal a strong possibility and that the retirement board wants to increase its leverage over RF&P's fate if that happens.

CSX, also based in Richmond, is the largest shareholder in RF&P, and company officials have said they have great interest in the smaller firm's strategically placed 110-mile line linking Richmond and Washington. The retirement system is the second-largest shareholder of RF&P, giving the state government effective power to block any merger that doesn't meet its satisfaction.

CSX also has been purchasing shares of RF&P on the open market since its earlier offer failed, and officials at both CSX and the retirement board said they are watching each others' moves warily.

Many smaller RF&P shareholders had applauded the state's role in scuttling the first merger plan, which they criticized as a sweetheart deal worked out in private between the boards of the two companies. These same investors said they welcomed the latest move by the retirement board.

David Winters, a securities trader for Mutual Series Fund Inc. -- a New Jersey company which owns RF&P stock and has criticized the firm's management for endorsing last winter's failed merger deal and for not disclosing enough information to shareholders -- said the retirement board's latest interest corroborates his firm's belief that the stock is worth more. "I think they made a wise investment," he said.

Others weren't so sure. Joseph L. Antrim III, an analyst who follows RF&P for Richmond's Davenport & Co., said CSX's earlier offer was probably a little low, but not "outrageously low."

CSX officials had no comment today. Susan Buffington, a spokeswoman for RF&P, said her firm is not aware of any new offers for the company.