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Financial Sector Slammed By Fresh Credit Worries

Downgrades of three U.S. investment banks, an ouster of Wachovia's chief executive, and a bleak U.K. housing market outlook from a British mortgage lender shook markets on Monday, reigniting fears that the global credit crunch will continue to hurt the world economy.

Standard & Poor's on Monday cut the credit ratings of Lehman Brothers ,Merrill Lynch and Morgan Stanley and said the outlook for the large U.S. investment banks was now mostly negative.

Credit Crunch
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Credit Crunch

The rating agency also warned that it may cut Wachovia after the U.S. bank ousted its chief executive Ken Thompson, following growing legal troubles and loan losses tied to the purchase of a big mortgage lender just before the U.S. housing market imploded.

S&P's action rocked global markets already smarting from a from a stark warning on the state of U.K. housing from mortgage lender Bradford & Bingley, as it tumbled into a loss for the first four months of the year and had to secure funding from a private equity group.

Also, Washington Mutual , the large bank and home lender slammed by the mortgage slump, said it would strip Chief Executive Kerry Killinger of his title of chairman starting next month.

"The worst of the credit market is over, but there are still a lot of problems," said T.J. Marta, fixed income strategist at RBC Capital Markets in New York.

"It just reminds everyone how tenuous the situation is in the financial system now," said Carl Lantz, U.S. interest rate strategist at Credit Suisse in New York.

Monday's events sent U.S. and European stock indexes broadly lower and spurred a run to the safety of government bonds.

Several widely watched measures of investor anxiety also surged, reflecting the renewed investor nervousness.

The TED spread, which tracks the relationship between three-month U.S. Treasury bills and the London Interbank Offered Rate, moved to its widest in two weeks, and the Chicago Board Options Exchange Volatility Index, or VIX, shot up by the most in more than two months.

S&P also revised its outlook to negative on Bank of America and JPMorgan Chase .

S&P also said Citigroup's rating is no longer on the brink of a downgrade but may still go down over the next two years.

"The negative actions reflect prospects of continued weakness in the investment banking business and the potential for more write-offs, though not of the magnitude of those of the past few quarters," S&P said.

Financial institutions globally have already written down over $350 billion in losses related to U.S. subprime mortgages and S&P said U.S. residential mortgage loan portfolios may deteriorate further, pressuring credit ratings.

"Obviously there is still a lot of problems in these markets, there are still some big losses that are likely to be reported," said Kim Rupert, managing director of global fixed income analysis at Action Economics in San Francisco.

The problems faced by financial institutions were highlighted by British bank Bradford & Bingley which said it saw continued pressure on margins as funding costs remain high and the risk of customers defaulting on loans was rising faster than expected.

B&B shares, which have already lost almost two-thirds of their value over the past year, slumped a further 32 percent to a record low of 60 pence on Monday.

Wachovia Corp shares fell over 3.0 percent on concern that the decision to oust its chief executive could signal more bad news ahead for the bank which has seen its stock tumble 58 percent over the past year.

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