>I had similar problems. To fix it I had to create directory /dev/pts. 

If you're not using devpts, then you need to manually create the /dev/pts
entries with something like:

for i in 0 1 2 3 4 5 6 7
do
    /bin/mknod /dev/ttyp$i c 3 $i
    /bin/mknod /dev/ptyp$i c 2 $i
done

I made sure that CONFIG_FEATURE_DEVPTS was not set in the BusyBox .config
before running make. 
The devpts file system was not configured in my kernel, so I knew I didn't
want it in BusyBox either. 
As far as I can tell, telnetd is the only BusyBox module that relies on this
setting.

I have a write up about this at http://coleman.jandasoft.biz/?p=40

Regards,
Coleman

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