Use the Teleport to Necromancer rune to return to Xardas with the Strange Sword; you have to return to the overworld in order to cast it, but don't leave the temple without the sword.
Xardas tells you it is called URIZIEL, and is the weapon of a legendary hero. Its power has dissipated over time, however. Tell him you're going to find better armor and he'll give you a key that opens the locked chests in his old tower. The old tower is north and just a bit east of his new tower.
Go into the corridor between the rooms of the tower and drop down into the mud to the west (use the strafing exploit if you need to) and head on up to where you met The Banished Orc Shaman. You should see the old tower near here. Dive into the water and swim over to it. You'll find a small opening. Go in there and dive down, then dive up as soon as the new path opens. You'll find yourself inside the tower.
There are lots of Skeletons and Zombies in here, as well as a Skeleton Mage. Take out the mage and then fight or avoid the rest. Open the chests for various good items until you find the Ancient Ore Armor (Weapons 95 Arrows 25 Fire 40 Magic 10) and the Teleport to Magicians of Fire rune. Once you have these two crucial items you can leave if you want to, or else keep searching for more goodies.
When you're done don't bother swimming again, just teleport straight back to Xardas. By now he has worked out that it may be possible to restore UZURIEL's former power, but it will require a lot of magical energy. What's the biggest source of magic energy this side of the Barrier? Why, the New Camp's ore mound of course!
Teleport to the Magicians of Water. You'll meet Milten here. Explain your problem and he'll agree to help you. You're then treated to a brief video of what happens next...