Nginx with Passenger setup problems

I'm trying to setup nginx webserver with Passenger support for Ruby on Rails application on Ubuntu 10.04 (on sub URI). All went fine until I tried to access the server/application from the browser.

My instalation of nginx is in location /opt/nginx

# my nginx.conf

server {
    listen       80;
    server_name  www.mydomain.com;
    root /websites/site/public;
    passenger_enabled on;
    passenger_base_uri /site; 


    location / {        # added by default, I don't know if its supposed to be here or not
        root   html;
        index  index.html index.htm;
    }

Then I started the server. But when I put www.mydomain.com/site in browser I get 404 Not Found error. Error.log shows this:

2011/03/04 10:07:07 [error] 21387#0: *2 open() "/opt/nginx/html/favicon.ico" failed (2: No such file or directory), client: 90.182.7.150, server: www.mydomain.com, request: "GET /favicon.ico HTTP/1.1", host: "80.79.23.71", referrer: "http://80.79.23.71/"
2011/03/04 10:07:07 [error] 21387#0: *2 open() "/opt/nginx/html/404.html" failed (2: No such file or directory), client: 90.182.7.150, server: www.mydomain.com, request: "GET /favicon.ico HTTP/1.1", host: "80.79.23.71", referrer: "http://80.79.23.71/"
2011/03/04 10:07:11 [error] 21387#0: *4 open() "/opt/nginx/html/favicon.ico" failed (2: No such file or directory), client: 90.182.7.150, server: www.mydomain.com, request: "GET /favicon.ico HTTP/1.1", host: "80.79.23.71:80", referrer: "http://80.79.23.71:80/"
2011/03/04 10:07:11 [error] 21387#0: *4 open() "/opt/nginx/html/404.html" failed (2: No such file or directory), client: 90.182.7.150, server: www.mydomain.com, request: "GET /favicon.ico HTTP/1.1", host: "80.79.23.71:80", referrer: "http://80.79.23.71:80/"
2011/03/04 10:07:13 [error] 21387#0: *5 open() "/opt/nginx/html/site" failed (2: No such file or directory), client: 90.182.7.150, server: www.mydomain.com, request: "GET /site HTTP/1.1", host: "80.79.23.71:80"
2011/03/04 10:07:13 [error] 21387#0: *5 open() "/opt/nginx/html/404.html" failed (2: No such file or directory), client: 90.182.7.150, server: www.mydomain.com, request: "GET /site HTTP/1.1", host: "80.79.23.71:80"
2011/03/04 10:07:15 [error] 21387#0: *6 open() "/opt/nginx/html/site" failed (2: No such file or directory), client: 90.182.7.150, server: www.mydomain.com, request: "GET /site HTTP/1.1", host: "80.79.23.71:80"
2011/03/04 10:07:15 [error] 21387#0: *6 open() "/opt/nginx/html/404.html" failed (2: No such file or directory), client: 90.182.7.150, server: www.mydomain.com, request: "GET /site HTTP/1.1", host: "80.79.23.71:80"
2011/03/04 10:07:19 [error] 21387#0: *7 open() "/opt/nginx/html/site" failed (2: No such file or directory), client: 90.182.7.150, server: www.mydomain.com, request: "GET /site HTTP/1.1", host: "80.79.23.71:80"
2011/03/04 10:07:19 [error] 21387#0: *7 open() "/opt/nginx/html/404.html" failed (2: No such file or directory), client: 90.182.7.150, server: www.mydomain.com, request: "GET /site HTTP/1.1", host: "80.79.23.71:80"

Why does nginx look for site in /opt/nginx/html/site as log shows when there's another path set in nginx.conf? Any idea whats wrong with my setup?