Stocks plunged Monday in the worst drop since the Sept. 11 terrorist attacks, after the House of Representatives voted down the $700 billion Wall Street financial rescue package.
The Dow Jones industrial average suffered its single worst point drop ever, a 777.68-point nosedive to 10,365.45 after the House voted against the plan that was stitched together over the weekend by adminstration officials and congressional leaders to try to stabilize financial markets and unthaw frozen credit markets.
The Dow's 7.0% loss was its 17th-worst percentage loss in history, according to Dow Jones indexes.
"The market is upset they didn't pass the bill," says Todd Leone, trader at Cowen & Co. "The fear is we will get a worst-case scenario" for the economy, he says. "Wall Street is telling Congress to get this deal done."
But the "no" vote doesn't preclude a deal getting done eventually, a fact that could still give investors a reason for hope that the stock market's problems won't make the economy collapse too.
Broader market indexes were also lower, with the Standard & Poor's 500 down106.85, or 8.8%, to 1,106.42, its lowest close since October 2004. Only one S&P 500 stock — Campbell Soup — ended the day with a gain. The Nasdaq composite was off 9.1%, or 199.61 points to 1,983.73.
Before the vote, Hugh Johnson, chief investment strategist at Johnson Illington Advisors, said a key first step to stabilizing markets was for the bill to be approved by the House. But that did not happen.
Major institutional investors were unsure if the bill in its current form would solve the credit crisis. But most thought the passage of the bill would be better than no bill at all.
"The worst thing you can do is nothing," BlackRock investment strategist Bob Doll said earlier in the day.
Frozen credit markets, which the government's plan was aimed at fixing, showed little signs of thawing, said Bill Hornbarger, fixed-income strategist at AG Edwards.
The yield on three-month Treasury bills, considered a super-safe investment, plunged to 0.15% from 0.84% on Friday. At one point early Monday, the yield went negative — meaning investors were willing to pay the government a premium to stash their money in a super-safe short-term IOU.
Similarly, the spread between three-month bank-to-bank lending prices in Europe, known as LIBOR, and the three-month T-bill widened sharply. The spread was almost 3.5 percentage points, up almost a half percentage point since Friday. Under normal market conditions the spread is two-tenths of a percentage point.
The wide spread shows banks are reluctant to lend to each other without being rewarded for the risk with higher interest rates.
"There is still a lot of stress in credit markets," says Hornbarger. "Investors want to hold the safest things they can until we get through this period."
Jitters were only increased by news that Wachovia Bank would be acquired by Citigroup, making Wachovia the latest U.S. banking institution to be leveled by the credit crisis.
Overnight, global stock markets posted losses as investors watched failures in Britain and Belgium. Shares were down sharply in Europe with Britain's FTSE 100 down 5.3%, Germany's DAX index 4.2%, and France's CAC-40 5.0%.
Asian markets closed down 1.3% in Japan, 4.3% in Hong Kong and 2% in Australia.
To compound matters, the third-quarter earnings reporting season is nearing, and investors fear profit warnings are likely to rise, Timothy Vick, a senior portfolio manager at Sanibel Captiva Trust says.
Investors feared the troubles facing the banking sector might worsen the economy's outlook and constrain lending, a key pillar of business and consumer spending and vital for profits.
Concerns over Europe's banking and credit woes — including a multi-nation rescue of one of Europe's biggest banks and the bailout of a second bank in Britain — were driving down markets, said Clem Chambers, CEO of ADVFN, Europe's leading stocks and shares website.
"Everybody is dead scared," Chambers said. "Nobody knows where it's going to stop."
"There's no silver bullet for what's plaguing the financial markets," said William Kaye, managing partner of the Great Asia Hedge Fund in Hong Kong.
Kaye believes the U.S. government should have allowed financial institutions to fail if they made irresponsible bets on subprime mortgages and other risky investments.
"Why not let them go broke?" he said. "People who do stupid things should get punished." He said the Paulson bailout reminds him of the piecemeal way Japan let a banking crisis drag on throughout the 1990s by periodically rescuing banks instead of allowing them to go out of business.
Monday's plunge in European bank stocks came amid announcements that:
• The governments of Belgium, the Netherlands and Luxembourg are pumping $16.4 billion into Fortis to keep it solvent. The Belgian-Dutch bank and insurance company is one of Europe's 20 biggest banks.
• The British government is nationalizing troubled Bradford & Bingley, a mortgage bank specializing in loans to buyers of rental property. It was the second British taxpayer bailout of a mortgage lender in a year.
• The German government is guaranteeing credit that lenders are extending to liquidity-stressed Hypo Real Estate Holding, a Munich-based bank and property conglomerate.
Europe's big nations last week had rebuffed urgings from U.S. Treasury Secretary Henry Paulson to set up their own bailout plans similar to the $700 billion rescue effort.
German Finance Minister Peer Steinbrueck said last week that the year-old global financial crunch was a U.S. problem that it needed to solve. Europe's other big industrial democracies — Britain, France and Italy — agreed, he said.
However, British Prime Minister Gordon Brown hasn't ruled out following suit if the situation worsens.
Until investors know where banks stand, Chambers said, European markets will remain volatile."It will be shooting up one minute and down the next," he said. "There's going to be violent mood swings."
Contributing: USA TODAY's Jeffrey Stinson from London and Paul Wiseman from Hong Kong; Associated Press; Reuters