Fed Warnings, Bruising Week Leave Bank Stocks at Year Low

companies. The American Banker index of the largest 225 institutions fell 9.8% in a plunge capped by a 3.6% drop on Friday.

That left bank stocks at a 52-week low. The market was affected by the release of government data indicating that the economy remains robust. A speech in which Federal Reserve Chairman Alan Greenspan alluded to financial panics also contributed to the downturn.

The Dow Jones industrial average dropped 2.6% Friday and the Standard & Poor's 500 index 2.8%. But banks fared far worse. The Standard & Poor's bank stock index was down 4.3%, the seventh-worst one-day decline.

"We believe that next week could be significantly worse," said Brown Brothers Harriman & Co. banking analyst Raphael Soifer. "We are not recommending financial stocks."

On Oct. 4, Mr. Soifer cut his ratings on Citigroup Inc., Chase Manhattan Corp., Merrill Lynch & Co., Morgan Stanley Dean Witter & Co., and Lehman Brothers to "short-term neutral" from "short-term buy." These commercial and investment banks are not likely to "outperform the broader market in a bearish environment," he said.

The government reported that producer prices rose 1.1% in September, the biggest one-month jump in nine years. The movement of the producer price index indicates that the economy is still growing robustly, making it more likely the Fed will raise interest rates. Bank stocks generally fall more sharply than others when the markets expect rate rises.

The news followed an ominous speech Thursday evening by Mr. Greenspan, who referred to the possibility of a stock market decline and widespread financial disorder. He warned that in such a scenario, the value of all financial assets could be hurt.

"Portfolio risk managers could find that they are underestimating the credit risk of individual loans based on the market value of assets and overestimating the benefits of portfolio diversification," he said.

Typically, Mr. Greenspan's remarks were not easy to decipher. He did not predict that stock prices would fall sharply or say which of various scenarios he expected to emerge. But he warned of the possibility of "sharp reversals in confidence" and said that such reversals often occur abruptly, bringing down the value of all assets.

Mr. Greenspan raised the specter of financial "panics" and said any "abrupt" decline in stock prices "must inevitably produce declines in the values of most financial obligations."

"Greenspan was telling investors that there is probably more credit risk out there than a lot of macroeconomic indicators are showing," said Kenneth Mayland, chief economist at KeyCorp, Cleveland. "Investor reaction to that was to sell."

Edwin David Walczak, first vice president chief investment officer at Vontobel U.S. Value Fund, is not optimistic about the outlook for banks. Mr. Walczak, who sold most of the banks in his portfolio in the last year, said he "is not in hot pursuit of bank stocks even though many of them have corrected."

There remain some optimists about the banks. "Investors over-reacted," said Scott J. Brown, an economist at Raymond James & Associates, St. Petersburg, Fla. "Greenspan did not say anything new. If anything, this re-emphasizes the market's sensitivity to any kind of news."

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