Banks in Usual Slot at Head of Stock Slide

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When stocks catch a cold, bank stocks go into cardiac arrest.

The KBW Bank Index dropped 10.7% on Monday after Standard & Poor's Corp. cut the government's credit rating, outrunning the 6.7% fall in the S&P 500 stock index.

It is a familiar pattern.

Leveraged to the fortunes of a debt-laden economy and standing downstream from the crisis in Europe, banks have consistently outpaced broader sell-offs during the past two and a half years (see charts).

They have also rebounded more sharply during upswings, achieving notable rallies as regulators released stress test results in mid-2009, and again early this year amid hopes that the recovery would pick up steam.

Still, even at their strongest, the gains failed to erase banks' underperformance during the period. Since the middle of 2008, the KBW Bank Index has lost 36% of its value, about three times worse than the S&P 500.

In trading Monday, Bank of America Corp., down 20%, and Citigroup Inc., down 16%, weighed heavily on the sector. Both are highly exposed to global cross-currents through their huge capital markets businesses, and B of A's mortgage liabilities have raised questions even when the economic picture seemed brighter. Worries that the two giants might collapse have recently crept up again according to trading in credit derivatives, with the price of protecting against a default at B of A ending last week at the highest level since December.

With investors unsure about the soundness of banks' capital levels, and the industry's need to earn its way past the doubts, bank shares are likely to continue their volatile path.

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