European bank shares fell on Tuesday on renewed fears about lenders' sovereign debt exposure, after a Wall Street Journal article highlighted the weakness of July's stress tests, as well as uncertainty over Basel III bank capital rules.
The Journal said the design of the stress tests allowed some European lenders to understate their holdings in risky sovereign debt, undermining the original intent of the tests — to convince markets the banks have a manageable exposure to at-risk countries like Greece and Portugal.
The Journal story cites particular examples at Barclays and Credit Agricole, where bond exposures are reduced by eliminating certain categories of holdings. Both banks told the paper they followed regulatory guidance.
The STOXX Europe 600 banking index fell 1.4 percent, while the iTraxx financial senior and subordinated indexes were 7.6 and 10.2 basis points wider respectively at 136.5 and 203 basis points, according to Markit.
Barclays shares were down 3.6 percent, after naming a new chief executive on Tuesday. Credit Agricole shares fell 2.9 percent.
Other top decliners included Belgian banks KBC, down 3.6 percent, and Dexia, down 3.2 percent. French banks Natixis and Societe Generale fell 2.3 and 3.2 percent, respectively.
Through Monday's close, European banking shares had risen 4.3 percent since the stress test results were released July 23, against a gain of 1.9 percent over the same period for the broader STOXX Europe 600 index .
Market participants also cited unease over the so-called Basel III bank capital rules, which are set to be discussed on Tuesday. A German newspaper, Die Zeit, reports banks will have to hold Tier 1 capital of 9 percent.
"There is uncertainty triggered by the shake-up at Barclays, rumors of capital increases and uncertainty ahead of Basel III," Frank Schneider, trader at Alpha Trading in Frankfurt, said.
European banks carried a 12-month forward price-to-earnings of 8.38, versus a 10-year average of 11, and a one-year forward price-to-book of 0.73, versus a 10-year average of 1.36, Thomson Reuters Datastream showed.
That compared with a one-year forward P/E of 9.96 for the STOXX Europe 600 and a 12-month forward P/B of 1.18.
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