The storm sweeping the financial world crossed the Atlantic yesterday, with Halifax Bank of Scotland, the UK's largest mortgage provider, hit hard by a cyclone of speculation. Having watched a series of major US institutions previously thought invincible, such as Bear Stearns, Fannie Mae and Freddie Mac, Merrill Lynch, Lehman Brothers and now AIG run into difficulties, traders asked "Who next?" and seized on the slightest hint of real or perceived weakness in the British banks to sell into a plummeting market.
Confidence was further undermined with the news that AIG Life had suspended withdrawals from two of its British funds yesterday, after being inundated with requests for redemptions following news that the insurer is on the verge of collapse. This is the first time during the credit crunch that retail investment funds, rather than bank deposits, have been threatened.
As many as 111,000 jobs in the UK financial sector could be lost, according to the management consultancy the Hay Group. Fears, some rational, some not, that a large British institution may yet become a victim of the credit crisis saw a general collapse in market confidence.
Given its exposure to the property market the turbulence centred on Halifax Bank of Scotland Group (HBOS): shares in the bank were down almost 40 per cent at one point yesterday. It ended the day with a fifth of its worth destroyed, while the Royal Bank of Scotland lost a tenth of its value. The FTSE 100 fell to a three-year low – more than £500bn has been wiped off UK shares this year.
Fearful of another meltdown on Wall Street if AIG went under, the US government has been negotiating the loan of tens of billions of dollars of taxpayer's money to tide the insurance giant over. The situation remained fluid last night. The most likely solution appeared to be a de facto nationalisation, an extraordinary reversal of policy, just two days after Hank Paulson, the US Treasury Secretary, decided to let Lehman Brothers go to the wall.
AIG moved last night to reassure customers that their policies were safe, saying that its individual businesses around the world would not be affected by the crisis at its New York-based parent company. It could not and would not raid those local businesses for cash to prop up the group, it said.
By the end of June AIG still had assets of over $1 trillion, and its collapse would be far bigger than that of Lehman Brothers, which had assets of about $600bn.
The concerns surrounding HBOS, which has £160bn in deposits and £256bn of outstanding mortgages, are also large; and part rumour, part fact.
The rumours are that HBOS is owed a large sum by Lehman Brothers; that it cannot raise funding on the commercial markets; and that the "tripartite regulators" (the Bank of England, the Financial Services Authority and the Treasury) are making informal contingency plans for it.
Such gossip has created much uncertainty. "It seems that nobody is prepared to do any transactions with anyone else because the counterparty risk is just too high," said Jane Coffey, head of equities at Royal London Asset Management.
The rumours have been firmly dismissed by HBOS and by the FSA. An HBOS spokesman said yesterday that it continues to gain "very satisfactory" access to money-market funding".
The Bank of England refused to comment, though it injected a further £20bn into the money markets. The FSA, however, took the unusual step of backing HBOS. "We can confirm that [HBOS] has a strong capital base and continues to fund satisfactorily," a statement read.
The watchdog added that it has told banks that if there is anything material they should tell the market promptly.
The facts, however, are scarcely less frightening than the rumours. The continuing shock of Lehman's "protective bankruptcy" has sent the market cost of borrowing money soaring.
To compensate for the additional risks stalking the markets, the rate at which banks will lend to each other (the London Inter Bank Offered Rate, or Libor), overnight more than doubled for dollars, from 3.1 per cent to 6.4 per cent, and rose from 5.8 per cent to 6.8 per cent for sterling. Observers worry that a "fire sale" of mortgage-backed securities from Lehman Brothers will push those held by Halifax and others even lower.
On the day that inflation hit a new recent peak of 4.7 per cent, and with house prices falling by 10 per cent a year and independent forecasters predicting a recession, the nervousness about the banks could not have come at a worse time.
Is my money going to be safe?
If you've got your savings or current account with Halifax, the Bank of Scotland or Birmingham Midshires – all part of the HBOS group – there's no need to panic.
This is a big organisation that successfully managed to raise new capital earlier this year and which, as recently as yesterday, reassured the market that its capital position is stable. The only way HBOS will become vulnerable is if savers turn up in their droves to withdraw their money – and even then, it seems highly unlikely that the Government would let the bank go bust.