Shares in HBOS have dropped by as much as 200p since markets closed on Friday but have rallied this morning rising to 190p at time of writing.
Shares in Lloyds have fluctuated wildly this morning rising as high as 297p before falling to 261p. Share prices now sit at 291p.
A merger would create a British banking giant with over 139,000 potential employees and nearly 30m existing customers. It would have a market value of some £30bn.
Neither Lloyds or HBOS are commenting on the situation.
The FSA says that since the beginning of the current extreme difficulties in the financial markets, it has worked intensively with all major UK banks to ensure they have credible capital and liquidity plans.
A statement adds: “We are satisfied that HBOS is a well- capitalised bank that continues to fund its business in a satisfactory way.”