Markets Tumble on Portuguese Bank Woes / Wall Street Journal

EUROPE MARKETS

Markets Tumble on Portuguese Bank Woes

Shares Fall and Bond Yields Rise on Concerns About Financial Health of Country's Biggest Lender

By JOSIE COX

Updated July 10, 2014 11:52 a.m. ET / http://online.wsj.com/articles/markets-tumble-on-european-bank-woes-1404979086?tesla=y

Worries over the financial health of a major Portuguese lender spooked global markets on Thursday, drubbing shares in southern Europe and sending U.S. stocks tumbling at the open.

Investors scooped up assets traditionally seen as havens, such as gold and U.S. and German government bonds. The 10-year German Bund traded at its strongest level in two years.

Amid the market turmoil, some southern European companies pulled stock and bond offerings.

The Portuguese shock pierced a pleasant calm that had settled on markets for months, and had permitted a parade of once-shunned governments and companies to sell debt and equity--among them Portugal itself, which had sold a long-term bond to healthy demand just weeks ago.

Thursday's market turmoil was reminiscent of the broad, sharp moves seen during the euro-zone debt crisis: every major stock index in Europe was in the red, and U.S. markets were falling, too. In morning trading in New York, the Dow Jones Industrial Average dropped 135 points to 16850 and the S&P 500 index fell 15 points to 1958.

Shares in Banco Espírito Santo, BES.LB -17.24%  the troubled Portuguese lender, have been under pressure since accounting irregularities emerged in its holding companies in late May. But the declines mounted drastically Thursday after investors learned that parent company Espírito Santo International had delayed coupon payments relating to some short-term debt securities.

BES stock dropped by over 17%, making it one of the day's weakest stocks in the Stoxx Europe 600 index, before its shares were suspended from trading. Stocks in BES's controlling shareholder Espirito Santo Financial Group SA, listed in Luxembourg, were also suspended earlier in the day, scaring investors.

Banks in Iberia endured a severe battering, but shares in financial institutions in Germany, France and the U.K. all dropped by more than 2.5% too.

Banco Popular Español stock fell 5%, and the Spanish group postponed a highly subordinated bond issue, citing adverse market conditions. The debt deal, its first so-called contingent convertible bond, was intended to help it strengthen its capital base ahead of pan-European bank stress tests later this year.

Riccardo Barbieri Hermitte, the chief European economist at Mizuho International PLC in London, said Thursday's selloff "shows that assumptions that the market was making were incorrect."

"If a banking system has been recapitalized, it doesn't necessarily mean that it doesn't face problems," he said.

Beyond banks, Italian drug company Rottapharm SpA on Thursday pulled a Milan stock-market listing in which in had hoped to raise up to €540 million ($735 million) on Friday.

Spanish construction group Actividades de Construcción y Servicios S.A, meanwhile, postponed a planned five-year bond deal, a banking source said. It had initially said it wanted to sell €500 million of five-year bonds. They couldn't be reached for comment.

And Greece Thursday issued €1.5 billion of three-year bonds, less than many market participants expected.

The fallout caught the market off guard, particularly because Portugal had been showing signs of economic stability after suffering severely during the financial crisis.

Earlier this month, Portugal returned to the syndicated bond market with a $4.5 billion, 10-year bond that attracted orders in excess of $10 billion. In June, the government said it would forgo the final €2.6 billion ($3.52 billion) batch of its international bailout loan because it doesn't need the money.

Portugal got a €78 billion rescue package in 2011 after investors lost faith in the government's ability to repay debts.

Between July 2013 and the start of this month the Portuguese stock exchange had gained almost 30%, but over the last 10 days the index has declined almost 12%.

"This may be a wake-up call for the market to realize that things are not as rosy as people thought until just a few days ago," said Gianluca Ziglio, an analyst at Sunrise Brokers.

Others said that weak economic data had accelerated the selloff Thursday too.

Industrial production in France and Italy contracted in May, which followed the heels of a decline in German exports earlier this week and pointed to uncertainty over the euro zone's economic growth.

Portugal's main PSI 20 stock index was trading 3.7% lower, while Spain's IBEX 35 declined 2.2% and Greece's Athex lost 2%. The yield on Portugal's 10-year debt rose to trade at 3.925%, around 0.17 percentage points higher on the day. Yields rise as bonds fall.

Alberto Gallo, a credit strategist at the Royal Bank of Scotland said that although BES isn't directly responsible for the repayment of any ESI bonds, it "is subjected to reputational risks given its link to the group."

Simon Smiles, the chief investment officer for the ultra-high-net-worth segment at UBS said that it was the uncertainty around what would happen following the mis-payment that was unnerving investors, especially against the backdrop of still very lackluster industrial production data across the region.

The Stoxx Europe 600 lost more than 1.1%, while Germany's DAX declined 1.3% and France's CAC-40 1.4%.

The stock slump helped to support the recent rally in German bunds. The yield on the 10-year Bund dropped to around 1.185%, marking a two-year low, according to Tradeweb.

In commodities markets, gold, also perceived to be a safe investment in times of stress, climbed 1.43% to $1,343.40 an ounce, while Brent crude oil was broadly unchanged at $108.39 a barrel. The euro weakened 0.3% against the U.S. dollar too, at 1.3598.

- Chiara Albanese contributed to this article