U.S. stocks follow overseas markets lower

NEW YORK -- U.S. stocks dropped sharply Thursday after plunges in both Asian and European stock markets as investors fled the fallout from the troubled U.S. mortgage market.

Investors' confidence, already diminished by months of bad news about mortgages and credit, took a further drubbing after Countrywide Financial, the nation's largest mortgage lender said it was forced to draw on an $11.5 billion credit line to fund operations.

Housing construction also fell, coming in at a 10-year low in July.The Commerce Department reported that construction of new homes and apartments dropped 6.1% last month to a seasonally adjusted annual rate of 1.38 million units. That was down 20.9% from the pace of activity a year ago and represented the slowest pace since January 1997.

Wall Street seemed unfazed as the New York Federal Reserve — which carries out the central bank's market operation — announced an overnight repurchase agreement worth $12 billion. This was on top of a 14-day "repo" worth $5 billion announced before the market opened.

Central banks around the world have been supplying billions of funds to banks in the past week to make cash available for lending and keep interest rates from rising amid signs that credit was drying up. The Fed uses a repo to buy securities from dealers, who then deposit the money into commercial banks.

But, it has done little to offset fears about steeper losses for financial institutions squeezed by weeks of volatility that showed no signs of abating. Analysts contend many institutional investors want the Fed to be even more decisive.

"The concern out there is how bad are these problems with some of the financials, and everyone is looking for the Fed to aggressively cut rates to bail out the market," said Peter Dunay, an investment strategist with New York-based Leeb Capital Management. "The Fed is not eager to cut rates each time the market declines, and they're sending a message to the market that you might be on your own for a little bit."

Adding to the unease, the yen rose to a one-year high against the dollar.

In answer to the question, What would signal that things are getting worse?, Tim Lee of Pi Economics, a Stamford, Conn.-based analysis firm, told USA TODAY last week: Keep an eye on the Japanese yen. If it starts rising against the dollar, that will be a sign that a financing strategy called the "yen carry trade" may be about to blow up, Lee says. In recent years, investors have borrowed large amounts of yen at low interest rates and used the money to finance deals in high-interest-rate countries. Using borrowed money magnifies gains if things go right. But if the yen soars, the losses would be enormous. U.S. investment banks could be among those at risk, Lee says.

In morning trading, the Dow Jones industrial average was off nearly 200. The Standard & Poor's 500 index was trading more than 10% below its July 16 record close, putting it on track for what would be considered a correction.

In London the FTSE 100 Index dropped 2.7% to 5,945.50, trading below the 6,000 level for the first time since March. About 108.9 billion pounds ($216.9 billion) has been wiped from the value of Britain's leading stocks since trading closed last Wednesday.

France's CAC-40 declined 2.1% to 5,237.34 after earlier dropping to its lowest level this year, and Germany's DAX index fell 1.7% to 7,319.56.

"Investors continue to flee from anything that smells of risk, even the tiniest bit," said Jay Bryson, global economist with Wachovia.

"There could be further losses to come," said Scott Scrase, a trader at CMC Markets.

The damage in Asia was widespread: South Korea's benchmark Kospi Index plummeted 6.9% to 1691.98, its lowest level in since May; Hong Kong's Hang Seng Index dropped 3.3% to 20,672.39; Singapore's Straits Times Index lost 3.7% to 3,152.16; Tokyo's Nikkei 225 fell 2% to 16,148.49 and briefly dipped below 16,000 before clawing back a bit. Thai shares lost 3%, Philippine 6%, Indonesian 6%.

Asian shares, some of which had risen to record levels this summer, started tumbling last week on fears that global banks may be exposed to problems in the United States' subprime mortgage market, loans to borrowers with weak credit histories.

Analysts such as those at the Moody's credit-rating agency expect the damage to be limited. But investors weren't waiting to find out. They cashed in profits on stocks that had reached stratospheric levels.

Japan's central bank plowed another $3.4 billion into money markets to calm investors, its third intervention since Friday.

"The damage was not unexpected," said Jeffrey Lee, managing director of the Phillip Asia Pacific Growth Fund in Singapore. "The valuations are not cheap. And you have this problem with the sub-prime market, which is spreading. The extent of the damage is very much unknown." Lee says it's still hard to find bargains among Asian stocks, but "we're getting closer."

Repercussions in Asian markets were bigger compared with the loss of 1.3% overnight in the USA — where the loan problems erupted — with at least three Asian markets losing more than 6% on the day.

That's because of uncertainty over the effect on corporate earnings and the regional economy, said Shinichi Ichikawa chief strategist at Credit Suisse. He said the weakness of the dollar and the euro also fueled concern.

"The issue of the subprime loans is not just the problem of that sector, but it also affects many related financial products, (and) the size of a possible damage or other details are not clear, and that's why investors are feeling uneasy," Ichikawa said.