Banks dragged on the FTSE 100 at lunchtime, pulling the index back from early gains. It is thought that a couple of large programme trades went through from about 9am on Monday as index funds reallocated their positions at the start of the new quarter.
There were also some concerns about the cost of funding faced by banks following news on Friday that Germany's central bank will no longer accept Irish, Greek and Portuguese bonds as collateral. That could damage the market for repurchase agreements, or repos, which is an important source of wholesale funding for banks.
Vivek Raja at Oriel Securities explained:
Repo has collateral behind it. If you are raising the hurdle for collateral eligibility, you are making it more expensive to get that funding. If repo liquidity gets worse, that is worse for wholesale funding conditions for banks, then funding costs will go up.
Lloyds Banking Group was the biggest faller, down 2.4% at 32.8p. Barclays was down 2% at 230.5p, while HSBC was 1.6% lower at 545.8p. The FTSE 100 dropped 0.04% to 5766.
The credit rating agency Moody's said the move by the Bundesbank could have a wider impact on the European banking system. In a note released on Monday morning, it pointed out that it could open up dangerous splits in policy between the different national central banks in the eurozone.
If other central banks follow the Bundesbank, then the central banks of Greece, Ireland and Portugal (which will very likely continue to accept bank bonds guaranteed by their own governments) may increasingly fund such bank bonds guaranteed by their governments. Any losses on these loans will be borne by the national central bank that made them instead of being shared among eurosystem members, as was the case so far.
It said that would undermine the eurozone's attempts to spread risk across the region and could damage the credit ratings of European banks and governments.
