Red and raw from a bank bruising

Bank shares were badly bruised overnight, as investors worried that major global financial institutions will suffer heavy losses as a result of southern Europe's growing financial instability.

In the United States, investors have been aggressively buying bearish puts on big US banks, such as Goldman Sachs, JP Morgan Chase and Morgan Stanley, in the expectation that they will be singed by Europe's spreading debt crisis.

Sentiment towards the big financial institutions has also soured after JP Morgan Chase announced that it had notched up massive trading losses.

Shares in JP Morgan Chase dropped 4.3 per cent overnight, on reports that its boss, Jamie Dimon, will be called to testify before the US Senate Banking Committee. But other major US banks were also hit, with Bank of America declining 1.8 per cent and Citigroup down 1.9 per cent, while Goldman Sachs dropped 1.1 per cent. US investors are now favouring the smaller banks, which have a greater focus on the US market and which are seen as less exposed to the risk of a European meltdown.

Meanwhile, Spanish bank shares remained under pressure as Madrid's borrowing costs continue to climb, and following the move by Moody's Investors Service to cut the ratings of 16 Spanish banks by between one and three notches.

Overnight, Madrid sold €2.5 billion in bonds, but was forced to pay a higher yield than at previous auctions. Investors are increasingly doubtful that Spain will succeed in cutting its budget deficit, particularly if it is forced to pump funds into a number of troubled banks that have been hard-hit by the collapse of the country's real estate bubble.

And while Spain's major banks – such as Santander and BBVA – are continuing to generate solid profits, investors worry that they too could be at risk if deficit concerns push Spanish bond prices even lower. The two giant banks bought up huge quantities of Spanish government bonds after the European Central Bank flooded European banks with €1 trillion in cheap three-year loans.

The Spanish government was also forced to scotch suggestions of a 'run' on Bankia, the country's third largest bank in terms of asset size. The daily newspaper El Mundo reported that depositors had withdrawn around €1 billion ($1.27 billion) from their accounts in the wake of the Spanish government's move last week to partly nationalise the troubled institution. According to El Mundo, the bank's directors had been informed of the withdrawals at a board meeting on Wednesday.

"It is not true that there's a deposit flight," Deputy Finance Minister Fernando Jimenez Latorre said. "Depositors are safer now than they were a couple of weeks ago.”

The Greek and Spanish governments are worried that reports of heavy withdrawals could trigger a panic-stricken run on some banks. In Athens, bankers estimate that some €5 billion has been pulled out of Greek banks in the past 10 days, as frightened citizens have sought out safer havens for their savings. In February, former Greek finance minister Evangelos Venizelos estimated that Greeks had deposited €16 billion in foreign bank accounts since 2009, of which roughly one-third was put into UK banks, while 10 per cent went to Swiss banks.

Meanwhile, the share prices of the big French banks are being battered, as investors worry about their hefty exposures to Greece and Spain. Shares in the French bank Crdit Agricole plunged 3.5 per cent to hit a record low, as investors worried about the losses that the bank might suffer from its Greek subsidiary Emporiki. At the same time, BNP Paribas saw its share price fall 4 per cent, while Socit Gnrale dropped 3.6 per cent.