August 4, 2011

U.S., Euro Stocks Crumble on Fears of New Crisis

Europe's banks sit on toxic sovereign debt, while U.S. bank charges depositors to hold their money

The European Central Bank building in Frankfurt, Germany. (AP Photo/Bernd Kammerer) The European Central Bank building in Frankfurt, Germany. (AP Photo/Bernd Kammerer)

Fears of debt contagion intensified Thursday, sending U.S. and European markets into a dramatic tailspin.

The Dow Jones Industrials fell 4.3%, the S&P 500 4.78% and the Nasdaq dropped 5.08%. Italy’s Milan bourse plunged 5.2%, France’s CAC-40 fell 3.9%, and London’s FTSE and Germany’s DAX indexes lost 3.4%.

The DAX index has shed 100 billion euros so far this week, roughly matching the value of the second Greek bailout agreement reached two weeks ago.

Meanwhile, the troubles in Europe are having a strange spillover effect in the U.S., where Treasuries have rallied and short-term securities are at near zero yields.

In response, the Bank of New York has informed its large depositors it will charge them interest to hold their deposits. That investors have to pay a financial institution to hold its money may be emblematic of the havoc in the financial markets and a precursor of further crisis.

Thursday's market stress coincided with the European Central Bank’s (ECB) meeting, where policymakers left its main lending rate unchanged at 1.5%, but failed to convince investors it had the will or the means to fight the growing debt spiral.

ECB Chairman Jean-Claude Trichet announced the central bank’s intention to resume bond purchases, but traders reported purchases of Irish and Portuguese debt only, leading some to doubt the ECB’s ability to support weakness in the far weightier Italian and Spanish debt.

The latest crisis was evident on Tuesday when Spanish and Italian 10-year-bond yields crossed the dangerous 6% threshold. After initial hope of stronger ECB action had been dashed, Spanish and Italian bond yields ended the day near their record danger-zone highs reached earlier in the week.

In stock markets, European banks led the decline, signaling investors may be worried about a problem potentially greater than the insolvency of European nations and may be shifting concerns to the substantial concentrations of

toxic sovereign debt held by Europe’s banks. As European sovereigns weaken, so too does the capital position of Europe’s banks erode.

Italy’s Unicredit and Intesa banks declined by more than 9% and 10%, respectively, Thursday, and Lloyds, Barclays, Royal Bank of Scotland and Societe General were among the day’s biggest decliners.

The New York Times cited a Sanford Bernstein report issued Wednesday that shows “UniCredit’s exposure to mostly Italian bonds is 121 percent of its core capital ratio. For Intesa, a less-diversified competitor, that figure rises to 175 percent. For Spain, the ratios are no less daunting: a startling 193 percent for BBVA, Spain’s second-largest bank, and a less alarming 76 percent for the global banking giant Santander.”

Meanwhile, the U.K.’s Guardian reported a “silent run” on Greek points, where savers using their cash to pay off debts or are stuffing their euros in safe-deposit banks. Financial blogger Megan McArdle reported Italian banks are having trouble tapping into credit markets and notes that Lehman Brothers had about another week when it had reached that stage in 2008.

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