Why shares in HBos could fall yet further

You have to laugh really. Though perhaps not if you're an HBoS shareholder.

The Financial Services Authority has just introduced a rule forcing short-sellers of shares to disclose when they hold short positions of more than 0.25% of the stock of a company undertaking a rights issue (if you're long, then you have to reveal when you hold 3%).

The FSA's move was partly in reaction to a sharp plunge in HBoS's share price back in March. The FSA blamed this on false rumour-mongering and vowed to hunt down the culprits, but the watchdog has been forced to admit defeat.

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Meanwhile, its new rule on short disclosure forced Harbinger Capital, headed up by one of the world's best-paid hedge fund managers, to reveal it was shorting not 0.5%, not 1%, but a whole 3.29% of HBoS stock.

When confronted with evidence that one of the smartest (at least, if you judge investment skill by the size of his pay packet) of their number was betting so extravagantly on Britain's biggest mortgage lender to fall, all those independent-minded contrarians in the City did exactly what you'd expect.

They sold in droves

Why HBoS shares fell below their rights issue price yesterday

HBoS saw its share price sink beneath the 275p price of its rights issue yesterday, falling 4% to 270.25p. We've already written about this (see: Why British property could be China's next dud investment), but it looks increasingly like the underwriters, Morgan Stanley and Dresdner Kleinwort will have to carry the £4bn can for this one.

There were plenty of good reasons for HBoS to fall. There was the news from Rightmove that even house asking prices are now falling. A hammering for commercial property stocks after a heavy downgrade from HSBC also cast a general pall over the banking sector.

So it isn't all down to revelations that hedge fund managers are shorting the stock by any manner of means. After all, that's what hedge funds are supposed to do generate alpha' (market-beating returns, basically) by taking advantage of anomalies in the market that no one else has spotted.

And this is the slightly worrying thing. After all, it shouldn't have taken a genius to figure out that HBoS is not in a great position at the moment. Sure, March's sharp sell-off had a whiff of rumour-inspired panic about it, but in the rather fevered post-Northern Rock atmosphere, it wouldn't have taken much to inspire a run on bank share prices. More to the point, the stock has fallen by nearly 40% since then.

The real wonder is that anyone is long on HBoS, not that some highly-paid experts' are shorting it. After all, this is Britain's biggest mortgage lender we're talking about here. It has a great big loan book secured against what is the single most vulnerable asset class in Britain right now residential property.

Now that wouldn't be such a big deal if you thought that the management team has been prepared for a downturn, After all, all good things come to an end, don't they? Yet it seems that they believed their own hype. Even now, after several downward revisions, they're arguing that house prices will end the year down just 9%, which is frankly optimistic by most counts these days.

How low can house prices go?

But there's no point in the HBoS board just keeping their fingers crossed and hoping things will get better, because they won't. HM Revenue & Customs data released yesterday showed that the number of property sales (both commercial and residential) has fallen by nearly 40% in the past year. There were 100,000 transactions in May, compared to 158,000 the year before.

Just how low can prices go? The latest participants at our property RoundTable had a wide range of predictions, spanning a range from gloomy' to positively catastrophic'.

Suffice to say, the property market's going to get a lot worse before it gets better. And that pretty much means the same for the outlook for HBoS. Even if the share price does manage to claw its way back up above 275p, I wouldn't be taking up the rights on this one.

Turning to the wider markets

The FTSE 100 rallied yesterday, rising 46 points to 5,667. Commodity stocks were the main risers, with oil majors buoyed by ongoing high oil prices.

European markets made modest gains. The German Xetra Dax rose 11 points to 6,589 and the French CAC 40 rose 2 points to 4,511.

US stocks were little changed. The Dow Jones Industrial Average was flat at 11,842 as was the wider S&P 500 at 1,318, but the tech-heavy Nasdaq Composite fell 20 points to 2,385.

The Japanese market was also broadly flat. Higher oil prices boosted commodities-related stocks, but steelmakers fell on fears that costs for iron will rise at a record rate. The Nikkei 225 slipped 7 points to close at 13,849.

Brent spot was trading this morning at $136.23, while in New York, crude traded at $137.41. Spot gold was at $889. Silver was trading at $16.86 and Platinum was at $2,046.

In the forex markets this morning, sterling was trading against the US dollar at 1.9654 and against the euro at 1.2666. The dollar was trading at 0.6429 against the euro and 108.01 against the Japanese yen.

And in the news this morning, gas and oil explorer BG Group has made a hostile $3.1bn bid for Australia's Origin Energy Ltd. The group produces gas from coal seams. BG is particularly interested in the group's gas resources in eastern Australia, "which may feed a proposed liquefied natural gas project supplying utilities in northern Asia", reports Bloomberg.