Investors around the world rushed to raise cash, dumping positions in stocks, bonds, commodities and even gold.
U.S. stocks entered correction modeThursday, with the Dow plunging 512 points, or 4.3 percent at 11,932 and the S&P 500 was off 4.8 percent at 1200. Stocks are now down about 11 percent from their April highs.
The panicky trade was also evident in the U.S. Treasury market, where the 2-year yield fell to record 0.27 percent, and 1-month T-bills even traded with a negative yield.
One catalyst was a lack of confidence in Europe's ability to prevent its sovereign debt crisis from spreading and becoming a banking crisis. At the same time, signs of increased slowing in the U.S. economy and a fraying in emerging markets signal that the world economy may not see much growth, certainly not enough to fix fiscal problems.
It also comes after weeks of public haggling by U.S. politicians which spooked markets and raised the specter that the triple-A rating of the U.S., the world's gold standard credit, could be downgraded.
The dollar bounded higheras the euro nosedived 1.6 percent. Bank of New York Mellon was flooded with so many big cash deposits that it announced it would charge fees.
"I think what's going on here is people realize there's no more stimulus anywhere in the world. I think investors got caught up in Washington's political rhetoric. They just decided the rules of economics don't apply anymore. You may not have liked how the government was spending money, but it was still spending and that's still stimulus," said Richard Bernstein, CEO of Richard Bernstein Advisors.
"We have to be a little careful about being caught up in the volatility of the moment. The world's not coming to an end — yet," said Bernstein.
The European Central Bank's meeting Thursday added some elements of surprise to the markets. The ECB extended some favorable bank lending programs into next year but also resumed its bond purchase program for the first time in four months. ECB President Jean-Claude Trichet also said the central bank would remain alert to signs of inflation at the same time suggesting it would step back from its tightening cycle because of economic uncertainty.
The ECB bought Portuguese and Irish bonds, but not those of Italy and Spain which have recently come under pressure and sold off sharply after the ECB market action. Trichet has "lost all credibility with the market," said Kevin Ferry of Cronus Futures Management. "What you've got there is a regulatory mess where the ECB is looking at the ESFS and saying (to EU leaders) it's your problem," he said.
"They need to print euros. They need to print them like they never printed them before," said Ferry.
The ECB's moves come as European banks appear to be finding it increasingly harder and more expensive to fund themselves. "They're going to totally have to restructure the ESFS into a TARP program of some sort" he said.
The euro zone has been criticized for its failure to explain the mechanisms or expand the size of its ESFS bailout fund. The Wall Street Journal reported that Trichet has been speaking with French President Nicolas Sarkozy, and that Sarkozy will speak with German Chancellor Angela Merkel and Spanish Prime Minister Jose Luis Rodriguez Zapatero Friday.
Traders were also quick Thursday to point out that the Fed's quantitative easing program ended June 30, and since then the S&P 500 has fallen about 9 percent. Since Fed Chairman Ben Bernanke first raised the easing program in late August 2010, the market is up about 14 percent. The Fed meets next week, but traders doubt it will be planning a new easing program.
RBS global currency strategist Robert Sinche said the bottom line is that slower growth has made the situation worse. Last Friday, first half U.S. GDP showed the economy was barely growingand was at 0.4 percent in the first quarter. Then, July ISM manufacturing data Monday showed that the manufacturing sector is barely expandingat the start of the third quarter. Now, markets look ahead to Friday's July jobs report, expected to show 85,000 nonfarm payrolls were added, but whisper numbers suggest the number may be closer to flat — or even negative.
"There is a sense that people are selling whatever they have. Gold, which should be a beneficiary, went down. there is some sense that there's real liquidation going on," Sinche said.
"When you have extended balance sheets, whether they are consumer or government, the most important force is to have continued growth. So continued nominal growth makes everything a little more difficult to deal with," he said.
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