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Traders work on the floor of the New York Stock Exchange (NYSE) February 11, 2016. (BRENDAN MCDERMID/REUTERS)
Traders work on the floor of the New York Stock Exchange (NYSE) February 11, 2016. (BRENDAN MCDERMID/REUTERS)

Investor fears converge on bank stocks as sell-off spreads Add to ...

Fearful investors have turned to the health of the global banking system as the latest fixation in a market frenzy that continues to escalate.

Bank equities were trounced worldwide on Thursday, leading the way for an all-consuming stock market selloff that spared no major benchmark.

An overwhelming demand for safety dominated investor attitudes, as the ability of central banks to fend off economic threats seems increasingly doubtful.

While crude oil has been at the crux of the recent outburst of market volatility, bank valuations have now begun to reflect a grim assessment of the global economy.

“Energy companies have passed the ball to financials, because that’s where they get their money,” said John Manley, chief equity strategist for Wells Fargo Funds Management in New York. “When problems spring up anywhere, they inevitably find their way back to the financial sector.”

Withering risk appetite gripped equities on Thursday, as major Asian and European indexes fell by between 2 per cent and 6 per cent, adding to global equity losses in excess of $15-trillion (U.S.) this year.

In North America, the S&P 500 index dipped to a new two-year low before a late afternoon rally pared back the losses to end the day down by 1.2 per cent. The Nasdaq composite index meanwhile flirted with a 20-per-cent decline conventionally signifying bear market territory. That’s where the S&P/TSX composite index already resides, with Thursday’s 100-point drop adding to a total decline of 23 per cent since September, 2014.

This year’s market turmoil has been variably pinned on China’s economy, the oil-supply shock, the turning of the credit cycle and the beginning of Federal Reserve tightening. Now, with central banks around the world increasingly resorting to negative interest rates, global fears have converged on the banking sector.

Banks were already under earnings pressure as a result of loan exposure to the energy sector. But negative interest rates pose a distinct threat to profits.

Banks rely on the spread between long-term and short-term interest rates, and margins shrink when policy rates and yields on government bonds turn negative.

On Thursday, Swedish central bankers cut the national benchmark rate to negative 0.5 per cent. Last week, the Bank of Japan adopted a negative interest-rate policy for the first time in its history, while the European Central Bank has maintained below-zero rates since 2004.

“Banks need that positively sloped yield curve,” said Tom O’Gorman, director of fixed income at Franklin Bissett Investment Management. “You borrow in deposits and you lend out at higher rates.”

The added pressure on bank profits was matched by renewed pessimism toward the European banking sector. Deutsche Bank was at the epicentre of the bank stock selloff.

The German bank’s stock sank to a record low on Thursday as the market questioned its ability to service its riskiest debt – contingent convertible bonds, known as CoCos.

The strain on the world banks spread outward from there. Shares of French bank Société Générale fell by 13 per cent on Thursday when it came up substantially short of analysts’ earnings expectations and warned of “major headwinds” ahead.

“European banks are suffering from a crisis of confidence,” Michael Block, chief strategist at Rhino Trading Partners, wrote in a client note. “SocGen did little to alleviate concerns.”

Canadian and U.S. banks have also been drawn into the selloff. The S&P 500 financials sector is down by 18 per cent since the start of the year. And in Canada, seven of the top 10 stocks exerting the most downward pressure on the composite so far this year are members of the financial sector.

“This is a market driven by fear,” Mr. O’Gorman said. The memory of the 2008 meltdown of the financial system still looms large, although much has changed in the U.S. banking space, he said.

“It’s vastly different. In 2008, they were the problem. They had the bad assets, enough in some cases to wipe them out,” he said.

“They’re in significantly better shape today. Energy is a factor, and it’s going to hurt, but it’s more of an earnings issue rather than a systemic meltdown.”

With a report from Bloomberg News

Follow on Twitter: @tshufelt

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