Since the bear market began in March 2000, investors have been told that even if the economy suffered, the risks of investing in bank stocks were far lower than they had been during the recession of 1990. New and sophisticated risk management practices had enabled the banks to unload much of their lending risks to other market players, the argument went, while the institutions' ability to generate fees continued apace.
But a risk that the banks cannot expunge is the fear taking hold among investors that the nation's largest financial institutions were central to the financing of the stock market bubble that has burst so spectacularly. That perception is not only punishing bank stocks, which were not long ago seen as a haven for investors, but it is also casting a pall over the entire market, fund managers say. If banks are found to have facilitated corporate misdeeds -- such as hiding losses at Enron, as has been alleged in Congress -- severe damage will be done to already battered investor confidence in the entire financial system.
"The banks have been both the least visible and the most important components of the financing of the new economy over the last 10 years," said Jonathan H. Cohen, portfolio manager at JHC Capital in Greenwich, Connecticut, and former head of Internet research at Merrill Lynch. "Investors know that most Internet and telecom companies were part of a bubble, and that many brokerage houses were involved in the sustaining of the bubble. Now people are getting around to focus on the role of the commercial banks."
Bank stocks, as measured by the Philadelphia Stock Exchange/KBW Banks index, have lost 10.4 percent in the past two weeks alone. The index consists of 24 major banks and large regional institutions. Leading the way down are Citigroup and JP Morgan Chase, which both fell about 15 percent last week.
Traditionally among the most respected financial institutions, Citigroup and JP Morgan Chase were tarnished last week when their executives came under heavy questioning by Congress on their banks' role in the Enron fiasco. Both banks denied that they facilitated the hiding of debt at Enron, but several days after the testimony, the Securities and Exchange Commission said it would scrutinize the banks' Enron-related activities.Until May, the bank stocks were a port in the stock market's storm, a group to which investors retreated as many other sectors of the market collapsed. Holding up these shares was the belief that the recession's short duration meant not only that big banks would soon find increasing demand from corporate clients but also that heavily indebted consumers would not default on their loans as they might have if the recession were prolonged.
"Until recently, the feeling among investors was that banks have regulators and that will keep them out of trouble," said David A. Hendler, an analyst at CreditSights Inc, a credit research firm in New York. "But no one was thinking that the banks enabled the rest of the world's business problems, and that will eventually get reflected in the operating performance of the financial companies."
As bank stocks outperformed the rest of the market, their weighting in the Standard & Poor's 500-stock index has grown. That means that their recent downturn has hurt investors in the big, popular mutual funds that mirror the performance of the S&P.At the market's peak, for example, technology was the single biggest component of the S&P. But as technology shares plummeted, financial services companies stepped into the top spot.
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