Yesterday, just when it seemed some calm might have returned to markets after the storms of recent weeks, the banking giant HBOS found itself at the centre of vicious rumours – and a spate of "short-selling" orders from traders.
Shares in the group, Britain's biggest mortgage lender, with 23 million customer accounts and 2.1 million small shareholders, began a severe plunge.
As the shares fell, the market grew more jittery about the company, fearing that awful news was in store. Might this be another Northern Rock in the making?
By the time senior executives sprang into action to issue strenuous denials, shares in HBOS had tumbled 17 per cent, or more than 80p, to a multi-year low of 398p – their sharpest fall recorded in recent years.
The fall wiped more than 3 billion off the company's stock- market value.
The bank launched a day-long phone-call assault on news agencies, brokers and fund managers. It vehemently denied reports of liquidity problems and gave assurances that the group was not in financial trouble.
HBOS spokesman Shane O'Riordan summed up the rumours in one word: "Lies." And Britain's main financial regulator, the Financial Services Authority (FSA), waded in. In an extraordinary statement it said there had been "a series of completely unfounded rumours about UK financial institutions in the London market over the past few days, sometimes accompanied by short-selling".
While denying that the statement was specifically linked to the HBOS drama, it went on: "We will not tolerate market participants taking advantage of the current market conditions to commit abuse by spreading false rumours and dealing on the back of them.
"We remind market participants of the need to take extra care, in this market climate, to adhere to the market code of conduct."
HBOS shares rallied late in the day, closing 34p down at 446.25p, still 60 per cent down on their high last year.
Both the FSA and HBOS are convinced that this was no one-off affair – and that organised scare-mongering has been a feature of trading in bank shares in recent days.
HBOS's chief executive Andy Hornby told The Scotsman: "It is a sign of how false rumour- mongering can have a huge impact in a very short space of time.
"This is not the first time this has happened. Other banks have been hit in recent days and weeks – Lloyds TSB, Barclays, RBS, Bradford & Bingley and now us.
"We vehemently deny these rumours. And I would draw attention to the strength of the FSA's statement and the phrase 'completely unfounded rumours', because that is what they are."
How can the rumour-mongers make big profits out of today's jittery and febrile conditions?
TAKE this example. A trader makes a contract to sell 100,000 shares of HBOS at Tuesday's closing price of 480.25p, with a view to buying them back at a lower price at a later date. The amount he stands to receive from the sale is 480,250.
He then circulates rumours about the health of the company in a bid to drive down the price.
In today's scary conditions – particularly in the wake of the collapse of US investment bank Bear Stearns – even the barest rumours without any supporting evidence can come to be believed.
The price then falls – in the case of HBOS yesterday – to 398p. The trader then buys 100,000 shares at this price, for an outlay of 398,000. His profit is therefore 480,250 (the proceeds of sale) minus 398,000 (his purchase cost), which equals 82,250.
Short-selling – making money from shares whose value is falling – is legal in the stock market. What is a criminal offence is spreading rumours in a bid to drive down the price.
In a previous age this could be done through coffee house gossip, or a "planted" negative story in the financial press. Today, the techniques for rumour-spreading are much wider – and far quicker in their effect.
A share price can be driven down through spreading rumours in e-mails, or internet chatrooms or comments on investment websites.
Traders caught circulating false rumours are liable to a range of sanctions including bans on trading, fines and imprisonment for up to seven years.
The FSA admitted yesterday that proving malicious rumour-mongering can be very difficult – more so if the trader is operating from offshore.
And it is not easy to track down short sellers, as their names do not appear on the share register. Most short-selling trades are done on borrowed money through nominee accounts. The damage is done and the profit taken very quickly – in the case of HBOS yesterday, within an hour at most.
What will concern the regulators, the banking industry and the millions of small investors is the highly nervous and volatile state of the stock market in recent weeks and months – and a particularly apprehensive climate in which companies can find themselves vulnerable to scare-mongering.
IN THE US, investment banks heavily exposed to subprime mortgage debt have been especially vulnerable to rumour.
Detecting the difference between justified concern over the health of a bank's lending book or its trading prospects and a malicious rumour designed to lower the price can be difficult in today's atmosphere. In the case of Bear Stearns, fears over its exposure caused other financial institutions to call in their loans or withdraw their money.
The result was the effective collapse of the bank within three days of a formal statement from the board that the bank was not in financial difficulty.
Bear Stearns was bought by a rival, JP Morgan Chase, for just $2 a share – the same shares had been changing hands at more than $100 less than a year ago.
In these feverish circumstances and with confidence so brittle, there is little the authorities can do but to address the core reasons for the market's apprehensions – that is, to ensure banks have access to liquidity when needed and to lower interest rates if necessary to ease the strains in the financial system.
It is particularly unsettling that the stock market value of a major high-street bank such as HBOS can be sent tumbling in this way.
In today's conditions, it can be a series of short steps from a scary rumour to a share price slump to a withdrawal of deposits to a full-blown panic. And many bank insiders would argue that the bigger problem is not a lack of liquidity but a lack of confidence.
YESTERDAY'S swift action by Andy Hornby and senior executives was reminiscent of the concerns surrounding National Westminster Bank in late 1974. The bank had lent heavily to secondary banks and property companies that suffered badly as inflation and interest rates rose. Rumours swirled round the City that the bank was in trouble.
Earnest efforts were made by bank executives to dissuade the financial press from reporting what they insisted were absolute untruths. In due course, the shares recovered and within a few years had hit new highs.
A meeting is due to be held today between Bank of England governor, Mervyn King, and the chief executives of major UK banks. The commercial banks would like the central bank to lend them more money for longer and to take a wider range of assets, especially mortgages, as security.
It is not hard to see how, in today's febrile atmosphere, the City's Chinese whispers can change the sense of such a meeting and induce another run on bank shares, when holding firm would make more sense.