Europe's STOXX 600 share index fell 0.8% as regional banking stocks dropped by the same amount. MSCI's broad index of global stocks was steady, after Asian markets outside of Japan closed higher in line with rising Wall Street futures. The dollar index , which measures the currency against other majors, fell 0.6% in a move that pushed up sterling and the euro.
Shares in troubled San Francisco-based First Republic Bank hit a record low on Tuesday as it disclosed that deposits had plunged by just over $100 billion, reviving fears for smaller U.S. lenders that began with Silicon Valley Bank's collapse in March.
But ahead of quarterly results from Facebook parent Meta Platforms later in the day, Nasdaq futures were up 1.2% on Wednesday morning in Europe and S&P 500 futures gained 0.4%.
Microsoft rose 8% in U.S. pre-market dealings after its quarterly results, issued after the U.S. stock market closed on Tuesday, beat analyst forecasts. A $70 billion share buyback announced by Google parent Alphabet also looked set to insulate the mood on Wall Street from banking sector troubles. U.S. and European financial conditions have tightened significantly since the Federal Reserve and European Central Bank embarked on their most aggressive interest rate-hiking cycles for decades last year to battle soaring inflation.
This has dented confidence towards loan-dependent sectors such as real estate, and raised questions over how global banks will deal with defaults. Deposit flight from U.S. banks has prompted investors to dial down profit expectations for the global banking sector, with banks under pressure to raise interest rates on savings accounts to keep hold of customers' money.
"Banks around the world want to make sure their deposits will stay," said Jason Da Silva, director of global investment strategy at Arbuthnot Latham in London.
"So there's an expectation in the market that banks' earnings and net interest margins have probably peaked."
The benchmark S&P 500 and Nasdaq indexes
both fell heavily on Tuesday after weak consumer confidence
data, while bonds rallied sharply and interest rate futures
markets priced in a higher chance of Fed cuts later
in the year.
U.S. 10-year yields fell nearly 12 basis points (bps) on Tuesday, their sharpest drop in more than a month, while steadying about 2 basis points higher at 3.398% on Wednesday morning in Europe.
Germany's 10-year yield slipped 2 bps to 2.375% after dropping 11 bps in the previous session.
Complicating the outlook for bond markets, the cost of insuring against the U.S. government defaulting on its debt rose further on Wednesday after Treasury Secretary Janet Yellen warned that a failure by Congress to lift the debt ceiling would trigger economic catastrophe.
Spreads on five-year U.S. credit default swaps widened
to 62 bps, the highest since 2011.
"The chances of U.S. default remain very, very slim," said Guy Miller, chief market strategist at Zurich Insurance Group. "However, it just takes the probabilities to rise above zero and it becomes a real issue from an investor perspective."
In currency markets, the euro gained 0.8% to $1.1062. Sterling gained 0.6% to $1.249.
The yen was steady at 133.4 per dollar ahead of the Bank of Japan's meeting this week, as markets await clues from new governor Kazuo Ueda about whether he might ditch policies that have suppressed domestic bond yields and the yen.
Brent crude futures fell a further 0.3% to $80.56 a
barrel, having dropped almost 4% overnight with the risk-averse
mood. Gold was pinned just below $2,000 an ounce.
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(Reporting by Naomi Rovnick; additional reporting by Tom
Westbrook and Dhara Ransinghe; editing by Sam Holmes, Bernadette
Baum, Toby Chopra and Mark Heinrich)
