Shares in big global banks like Barclays and Standard Chartered were down by more than 5% on Friday morning.
The FTSE 100 was falling by about 1.5%, while the FTSE 250 was down by more than 1.6%.
Other Europe indexes were falling, with Germany’s Dax down by more than 2% and France’s Cac 40 declining by around 0.8%.
US regional banking stocks had fallen sharply on Thursday after two lenders revealed issues with bad and fraudulent loans, triggering a sell-off across the wider market.
Zions Bancorp announced it was taking a 50 billion US dollar (£37 billion) charge on the discovery of two bad loans, while Western Alliance said it was handling a potentially fraudulent borrower.
Russ Mould, investment director for AJ Bell, said investors were “spooked” by the news and “possibly opting to have lower exposure in case a crisis is brewing” in the banking sector.
“There is no evidence of any issues with the London-listed core banking names, but investors often have a knee-jerk reaction when problems appear anywhere in the sector,” he explained.
“In addition to news related to US regional banks, also weighing on sentiment were signs of liquidity pressures in America.
“Banks tapped the Federal Reserve’s short-term lending facility for more than 15 billion US dollars (£11 billion) over the past two days, the largest amount borrowed over a two-day period since the Covid pandemic.”
Richard Hunter, head of markets at Interactive Investor, said: “Of themselves, the credit losses announced by two regional banks were limited and seem to be contained.
“While there are hopes that this could be an isolated incident, the episode brought back unwelcome memories of the Silicon Valley Bank collapse in 2023 and, with several regional banks yet to report, investors are on high alert.
“Indeed, despite there being no obvious read across to the large banks, the reports were enough to put the skids under the sector as a whole, with losses of around 3% more or less across the board.”
At the same time, gold prices shot up to a new all-time high as investors sought out the safe-haven asset amid the stock market turbulence.
Prices reached about 4,380 US dollars (£3,260) per ounce on Friday morning.
