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Last updated: August 10, 2011 10:00 pm
Shares plunge as eurozone woes return
By FT Reporters
Wednesday 21.30 BST
A global stock rally caused by the US Federal Reserve’s promise to freeze interest rates until 2013 – and possibly introduce more quantitative easing – has evaporated, with Wall Street losing nearly all of the previous session’s gains.
Stock markets globally plunged, and bank shares experienced their second sharp fall on the week. In New York, the S&P 500 closed down 4.4 per cent at 1,120.76, erasing much of the previous day’s gains, and the KBW Banks index fell 8.2 per cent to a fresh low, its worst level in just under two years
The Fed’s downbeat assessment of the US economy has evidently only reminded investors that the global growth concerns that contributed to the recent market turmoil remain a stern debilitating force.
Furthermore, selling in eurozone banking stocks signals lingering eurozone sovereign debt tensions – another factor that has rattled investors of late.
Banks are bearing the brunt of investors’ fears, not only because of the slowing global economy but also as near-zero interest rates, which will now be anchored there for the foreseeable future, are crimping their ability to generate income from their deposits.
Rates well below 1 per cent on bonds as far out as two years – until the Fed’s 2013 target – are sparking a surge in demand for longer-term bonds. The US Treasury sold $24bn in 10-year yields in a refunding auction on Wednesday, and the notes priced at a record low yield of 2.14 per cent. The issue saw huge demand from direct investors, such as pension funds, who bought a record 31 per cent of the auction.
The FTSE All-World equity index, which was up 1.4 per cent after Asia rallied 2.1 per cent and Europe advanced, is now down 2.4 per cent.
Traders were further spooked by a sudden slump in French banking stocks on worries about their eurozone sovereign debt exposure should France lose its triple-A rating. The FTSE Eurofirst 300 is sporting a loss of 3.5 per cent, and financials are leading declines on Wall Street.
SocGen, for example, was down nearly 20 per cent before it released a statement saying it “denies all market rumours”, cutting its losses to 14 per cent. The continent’s banking index has shed 6.1 per cent.
Credit default swaps of a broad range of European banks are widening. The euro is sliding in sympathy, off 1.5 per cent to $1.4180.
Initial strong rallies in commodities have been savagely trimmed, with risk appetite dissolving as quickly as it sprang to life following the Fed’s announcement on Tuesday.
Wall Street had capped a volatile 24 hours by rallying strongly into the close after the Fed’s comments. The S&P 500 added 4.7 per cent, its biggest one-day jump since March 2009.
That pared much of a 6.7 per cent decline on Monday, its worst drop since the financial crisis. But it left the benchmark lower by 12.8 per cent over the past 12 sessions and below crucial technical support levels, leaving many to conclude that the downward trend remained intact.
Sure enough, the sellers have returned – the extreme gyrations over recent days speaking to a market struggling to maintain equilibrium as “bargain hunting” bulls and fearful bears do battle across asset classes. The S&P 500 is down 4.7 per cent on Wednesday, with US financials displaying some of the jitters seen by their peers across the Atlantic. The KBW Banks index fell to its lowest level since July 2009.
The insecurity among a significant portion of the trading community can be seen in the performance of several barometers that are normally correlated closely with risk aversion.
The Vix index, which tracks equity volatility and is known as Wall Street’s “fear gauge”, has jumped more than 20 per cent and is back above the 40-point mark. Gold has hit a new record high of $1,779 an ounce, and is currently up 2 per cent to $1,778.
Meanwhile, forex action suggests perceived havens maintain their cachet. Even with the Fed promising to stay “low for longer”, the dollar index is up 1 per cent, while the yen and Swiss franc remain near record levels versus the greenback, despite the Swiss central bank taking further steps to weaken its buoyant currency.
In addition, core bonds remain a favoured bolthole. US Treasury yields plunged to an all-time record low overnight after the Fed’s announcement. The two-year US Treasury note, which matures in 2013, fell to just 16 basis points and on Wednesday is 18bp.
The 10-year note, which becomes much more attractive to investors who are seeing nearly zero returns in short-term notes, also fell to an all-time low yield of 2.035 per cent on Tuesday, a move of more than 28 basis points. That drop in yield was the sharpest since the week of the collapse of Lehman Brothers.
But yields then rose aggressively in later trading, as investors balked at the prospect of earning just 2 per cent on their bonds, and 10-year notes on Wednesday are trading at 2.1 per cent. This is still around their lowest yield since the depths of the financial crisis.
Investors are also sweet on German Bunds and UK gilts, with yields dropping 16bp to 2.21 per cent and 22bp to 2.5 per cent respectively. The benchmark gilt yield is at a record low. The Bank of England’s quarterly inflation report appeared to have little impact on either gilts or sterling, with traders having perhaps anticipated the downbeat tone.
Earlier, in Asia, commodity producers led the relief rally as oil and metal prices rebounded. The resource-rich Australian market was the region’s outperformer, bouncing 2.6 per cent.
Chinese banks were also higher on expectations that Beijing would keep interest rates on hold following relatively comforting inflation data on Tuesday. The firmness in financials helped the Shanghai Composite index move 0.9 per cent higher. Hong Kong’s Hang Seng added 2.3 per cent.
In Seoul, market heavyweights rebounded after financial regulators announced a short-selling ban on all stocks from Wednesday. Shipbuilding stocks and brokerages rallied on bargain-hunting after being hit hardest by the recent sell-off, leaving the Kospi index up 0.3 per cent.
Reporting by Jamie Chisholm in London, Song Jung-a in Seoul and Telis Demos in New York