Market Report: Fate of Lehman trading book weighs on stocks

The London market was nursing fresh bruises last night following mounting concern about the impact of the Lehman Brothers bankruptcy and fears for the financial health of AIG, the American insurance giant.

The sell-off took the FTSE 100 index to a three-year low of 4,961.2, down 234 points, at one point in afternoon trading. Around the same time, the mid-cap FTSE 250 touched a low of 8,319.7, down 388.7. At the close, the FTSE 100 was down 178.6 points, or 3.4 per cent, at 5,025.6. The FTSE 250 was down 299.3, also 3.4 per cent, at 8,409.1.

Traders said while worries for the cash position at AIG, which slumped 63 per cent in early trade on Wall Street, had undermined confidence among investors, certain technical factors connected to Lehman Brothers may have contributed to the latest move down in London shares

"There is some speculation that Lehman's administrators are selling down its equity book. If true, it would explain some violent movements like Bluebay Asset Management [the FTSE 250-listed fund manager]," said one trader. Bluebay, around 5 per cent of which is owned by Lehman, touched a low of 225p, down 45p in early afternoon trading. By the close, it had recovered to 255p, down 15p.

Mecom was another example. The stock was hit in the last auction of the day, and closed 13p lower at 10.5p, after Lehman sold 350,000 shares in the company at a deep discount to the price at the close on Monday.

A second set of rumours suggested Lehman had called in all stock lent out to short sellers, many of whom had been forced to close their positions. Under normal circumstances, this would add strength to stock prices as short sellers turned buyers. But, the rumours suggested, any positive impact was overshadowed by Lehman, which was selling shares as they were returned.

Manoj Ladwa, senior trader at ETX Capital, said: "The market is going to remain highly jittery until the full extent of Lehman's positions is understood and unwound."

The jitters were certainly evident around HBOS, which slumped to 182p, down 21.72 per cent or 50.5p, amid concerns about the strength of its balance sheet. Words of support from Collins Stewart, which said the liquidity risk at the bank had been overstated, were ineffectual as investors, spooked by the collapse of Lehman, rushed out of banking issues. Confidence was also undermined by Standard & Poor's, which lowered its long-term counterparty ratings for the mortgage lender.

Analyst Nigel Greenwood said: "The rating action reflected Standard & Poor's opinion that HBOS's financial profile is less well positioned to manage the deteriorating operating environment than 'AA' rated global peers."

The FTSE 250-listed peer Bradford & Bingley, down 4.76 per cent or 1.5p at 30p, was hit by ratings downgrades at Moody's. Cazenove said the downgrades will make it increasingly difficult for B&B to obtain wholesale funding at competitive rates. The broker added: "The business model is in question, in our view..."

In the insurance sector, the uncertainty around AIG, whose credit ratings were downgraded the night before, undermined Old Mutual, which lost 6.2p to 84.4p, and Prudential, 13.25p lower at 486.75p. Panmure Gordon said sentiment was driving sector share prices. The broker added: "We do not expect a rapid rebound of share prices even when insurers confirm only limited exposures, but on a 12-month view there is great value to be had."

Also on the downside, mining and oil issues fell thanks to weaker commodity prices. Cairn Energy was down 202p at 2,128p and Kazakhmys lost 74p to 706p. The energy services specialists Amec, down 43p at 665p, and Wood Group, off 46.75p at 342.75p, were hit after Royal Bank of Scotland highlighted the possibility the weakness in the oil price may make certain key oil sands projects uneconomical.

On the upside, Enterprise Inns gained 6.5p to 215p after Redburn switched its stance on the stock to "buy" from "sell". The wider sector rallied with Enterprise, and Mitchells & Butlers was up 12.25p at 287.5p. Rumours of a short squeeze in the sector were dismissed by traders, who said the Redburn note was the most likely cause of the strength.

On the second tier, the staffing firm Michael Page fell 71.75p to 250p after Adecco, the Swiss recruitment group which made a 400p-per-share approach in August, abandoned its plans to take over the company.

On AIM, Independent International Investment Research, the online financial research firm, fell 40 per cent or 1p at 1.5p after it said the loss of business from Lehman, which was one of its largest clients, "would have a significant impact upon revenue and earnings" in the current and the next financial year. IIR said its business with the bank may continue if the company's broker-dealer division, which was its client for equity research, is sold off as a going concern.