Weak economic data, a bleak earnings report, and a major banking company's move to settle a dispute over auction-rate securities drove down financial stocks and the broader markets Thursday.

The KBW Bank Index tumbled 5%.

The Dow Jones industrial average shed 1.9% Thursday, and the Standard & Poor's 500 index, 1.8%.

New York Attorney General Andrew Cuomo said during a press conference Thursday that Citigroup Inc. had agreed to buy out illiquid auction-rate securities, totaling about $7 billion, that it sold to charities as well as retail and small-business clients. Shares of Citi, which also agreed to pay $100 million in fines, fell 6.2% Thursday.

Jack A. Ablin, the chief investment officer at Bank of Montreal's Harris Private Bank in Chicago, said financial stocks have been trading "on emotion, innuendo, rumor, and sometimes panic, making it extremely difficult for rational investors to ascertain fair value."

In an interview Thursday, Mr. Ablin said the markets' negative reaction to Citi's agreement to make whole its auction-rate securities clients "is emblematic of that." The auction-rate issue, though affecting several investment banks in addition to Citi, does not threaten the bottom lines of most banking companies, he said — yet the news helped to drive down a range of bank stocks Thursday.

"Here's a classic case of emotional trading," Mr. Ablin said.

Other notable decliners Thursday included Fannie Mae, 14%; Wachovia Corp., 7%; Marshall & Ilsley Corp, 7.3%; Huntington Bancshares Inc., 7.1%; Umpqua Holdings Corp., 9.1%; and BankUnited Financial Corp., 14%.

A dismal earnings report from American International Group Inc. added pressure to financials. The insurer, hobbled by bad mortgage-related investments, reported after markets closed Wednesday a $5.36 billion loss. AIG's shares plunged 18% Thursday.

The slumping economy continues to weigh on the markets as well. High fuel and food prices have pinched consumer pocketbooks this summer, helping to chip away at corporate profits, economic growth, and employment.

The Labor Department reported Thursday that initial claims for unemployment benefits during the week ended Aug. 2 jumped by 7,000, to 455,000, the highest mark in six years.

Consumer credit grew at an annual rate of 6.7% during June, the fastest rate for any month this year, the Federal Reserve reported Thursday. Consumer credit stood at nearly $2.6 trillion at the end of June, up $14 billion from the previous month, as more consumers used credit cards to keep up with higher gasoline and food costs, the Fed said. Economists surveyed by Thomson Reuters had, on average, expected a $6 billion June increase.

Meanwhile, the National Association of Realtors said Thursday that its index of pending existing-home sales rose at a seasonally adjusted annual rate of 5.3% in June, to 89.0. But the index was off 12.3% from a year earlier.

The group's chief economist, Lawrence Yun, said in the report that sales have risen and fallen within a fairly narrow range this year. "The vacillation of data from one month to the next indicates a housing market in transition," he said.

Another economist agreed and called the June report "encouraging." But Sung Won Sohn, an economist at California State University in Los Angeles, said in an interview Thursday that it remains unclear how long the transition to a relatively healthy housing market will take. By extension, the economic outlook remains uncertain at best, he said.

"I find the numbers encouraging," Mr. Sohn said, referring to the Realtors' June home sales data. "But one month does not make a trend. I don't think we've hit a bottom yet in housing; I don't think we're anyway near it yet."

Until a clear picture forms on when an economic recovery will take hold, bank stocks are likely to be volatile, Mr. Ablin said, adding, "We still have a ways to go."

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