French stocks suffered their biggest drop in two weeks while the French bond yield spread hit a 16-year high on Tuesday after Moody's warning on France's triple-A credit rating outlook reignited fears of a new front in the euro zone debt crisis.
France's blue chip CAC 40 index, home to bellwethers such as L'Oreal , Total and LVMH , dropped 2.1 percent to 3,100.79 points, underperforming the broad STOXX Europe 600 index, which was down 1.2 percent, while Moody's warnings also hit the euro .
French banks, already battered over the last few months due to their big exposure to Greek and Italian debt, were the biggest losers. BNP Paribas and Societe Generale fell 7 percent or more, Credit Agricole was down 5.5 percent and Natixis down 5.0 percent.
BNP is down 20 percent in four sessions while there's a short selling ban in place. What is this telling you? Long-only funds are slashing their positions, said Derek Lawless, head of WorldSpreads France.
Late on Monday, Moody's warned it may slap a negative outlook on France's Aaa credit rating in the next three months if the costs for helping to bail out banks and other euro zone members stretch its budget too much.
That's a paradox: Moody's is saying the fact that France is taking the lead in all the initiatives to resolve Europe's debt crisis such as the EFSF fund, Dexia's rescue, etc. could weaken its own finances. (French President Nicolas) Sarkozy has painted himself in a corner, Lawless said.
The credit agency's warning comes as European Union leaders are trying to shape a bold plan to help the region's banks weather an expected Greek debt default.
The news pushed the French risk premium over benchmark German bonds to a 16-year high, with the 10-year French/Bund yield spread 8 basis points wider at 104 bps, its widest since 1995.
It brings back the jitters over France's triple-A rating in the spotlight, and a downgrade hasn't been priced in yet. But Moody's warning is rather soft, otherwise the market reaction would be much more violent, Arnaud Poutier, co-head of IG Markets France, said.
Moody's warning also had ripple effects on credit default swaps, with five-year CDS on French government debt climbing to 194 bps, according to data monitor Markit.
The CAC 40's underperformance on Tuesday underscored the index's struggle to keep up with Europe's major indexes this year and its slide towards the kind of performances seen in the benchmarks of debt-troubled euro zone countries.
So far this year, the CAC 40 is down 18 percent, falling behind UK's FTSE 100 , down 8.8 percent and Germany's DAX , down 15.6 percent, while Italy's FTSE MIB index has dropped 21.2 percent and Portugal's PSI 20 has lost 21.6 percent.