Britain's leading share index tumbled 5 per cent by midday, dragged down by bank stocks after US investment bank Lehman Brothers filed for bankruptcy protection.
By 12.15pm, the FTSE 100 fell 277.4 points to 5,140.2, wiping out all of the gain made last week, and was on track for its worst day since January 21st. There was no gainer on the index.
Worries about the financial crisis deepened after attempts on Sunday to find a rescuer for Lehman failed and troubled insurer American International Group asked the Fed for a lifeline, according to news reports.
HBOS topped the FTSE 100 losers' list, slumping 36 per cent to 181.7 pence, an all-time low. It was more than 730 pence at the start of the year.
HBOS is more reliant for its funding than any other major UK bank on borrowing in the wholesale market, and could face higher borrowing costs as a result of Lehman's collapse.
Lloyds TSB, HSBC, Royal Bank of Scotland, Standard Chartered and Barclays lost between 4 and 13.1 per cent.
The US Federal Reserve said for the first time it would accept stocks in exchange for cash loans and 10 of the world's top banks agreed to set up a $70 billion emergency fund, with any one of them able to tap up to a third of that.
But Bank of America agreed to buy Merrill Lynch in an all-stock deal worth $50 billion, seeking a bargain as the world's largest retail brokerage sought refuge from fears it could be the next victim.
"It's a very difficult day, its difficult to find grounds for optimism, it's a very dangerous time," said Crispin Odey, founder and fund manager at Odey Asset Management.
"We've had four acts in the US to support confidence: We had a cut of 75 basis points, we had the unlimited funding, we had the Bear Stearns save (by the Federal Reserve) and the Fannie Mae and Freddie Mac save and the market is still going down so it's painful."
Fed fund futures showed an 92 per cent chance of a further 25 basis-point cut by the Fed, which is due to announce a rate decision tomorrow.
Also in the financial sector, Friends Provident, Prudential , hedge fund Man Group and the London Stock Exchange shed between 7.1 and 10 per cent.