Downgrades, management shuffles hit banks

— -- Any hope that financial services companies had hit their lowest levels and were poised to start growing again was scuttled Monday when a credit-rating agency downgraded three large investment banks, and two big commercial banks stripped their CEOs of duties.

The news weighed on the stocks and helped shake up the broader market. Merrill fell $1.30 to $42.62, Morgan Stanley lost $1.13 to $43.10, and Lehman fell $2.98 to $33.83. The Dow Jones industrials lost 135 points to 12,504.

The overarching problem facing the industry is the possibility of a prolonged recession, says David Beim, a Columbia Business School professor. "What economists fear is that nothing is going for consumer demand right now, and everything is against it. What happens to banks has everything to do with that."

For the three investment banks, the S&P downgrade carries a serious cost, says Richard Bove, managing director of Ladenburg Thalmann. The banks carry hundreds of billions of dollars in debt on their balance sheets, and the ratings downgrade likely will increase the cost of that debt. "They've got a problem," says Bove, who expects the three banks to aggressively sell some of their assets.