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Bank stocks took a pounding in Tel Aviv yesterday as Wall Street investors savaged the shares of the last two standing independent New York brokers, Morgan Stanley and Goldman Sachs. Israeli bonds also lost ground, which traders blamed in part on a selloff by foreign investors.

In two days of trading, Israel's five biggest banks lost NIS 7 billion in value. From from the start of the year the banks have lost NIS 24 billion from their combined market capitalization on the Tel Aviv Stock Exchange - 40% of their value.

Earlier yesterday Bank of Israel Governor Stanley Fischer summoned the representatives of Israel's seven biggest banks, demanding details on their exposure to the crisis on Wall Street. The bankers assured the watchdog that their exposure to bankrupt investment bank Lehman Brothers is small. Somehow Tel Aviv felt less than confident in view of developments abroad. The Banks-5 index dropped 8.3% yesterday, following its nearly 6% fall the day before.

As Morgan Stanley plunged 40% in early trading and Goldman sank 20% on Wall Street, shares of Bank Hapoalim finished 12.5% lower on enormous turnover of nearly NIS 320 million. Leumi was not spared either, falling 5.5% on turnover of NIS 173 million. The Finance-15 index of banks and insurance companies sank 6.5%, following a drop of 7.5% the day before. Even Mizrahi-Tefahot, which analysts are calling an "island of stability" in the stormy oceans, fell by more than 6% yesterday.

The concern regarding Israel's banks isn't even exposure to Lehman Brothers. That is evidently small. It's exposure to the international capital market and the potential decimation of their profits if Israel's economic growth slows or reverses into recession.

The heavyweight banks dragged down the TA-25 index of blue chips by 3.5%, and the TA-100 index fell 3.1%. Tech stocks stood their own: The TelTech-15 index fell only 0.5%. Total turnover was a third heavier than usual, at NIS 2.7 billion.

The relief in the marketplace from the U.S. Federal Reserve's $85 billion bailout of American International Group and Wall Street's rally on Tuesday lasted all of two hours yesterday. The possible reason for the pullback was the realization that the Fed was nationalizing the insurance giant due to its concerns that AIG would suffocate on its liquidity squeeze and drag down financial systems worldwide.

Tel Aviv stocks actually began Wednesday with a hefty gain of about 2%, led north by real estate stocks. The Real Estate-15 index was up 8% shortly after the opening. But as said, the relief was all too transient. Europe opened mixed and Russian stocks tanked - prompting a suspension of trading there for the second straight day, and Israeli stocks reversed into the red.

Israel's massively leveraged big corporations - companies shouldering a mountain of debt - are by definition the first to feel the effects of the credit crisis. The liquidity crunch caused by the collapses and tremendous value writeoffs on Wall Street have led the banks to hunker down and refuse to lend any more, for fear of losing their money.

Leveraged companies tend to recycle their debt, to borrow more hopefully at better terms in order to repay old debt. But in a credit crisis, they can't do that, or if they can borrow - it's at a higher rate of interest. This state of affairs is especially pertinent to the big real estate investment companies.

The Real Estate-15 index lost only 1.8% yesterday, after a drop of more than 10% on Tuesday. But among the biggest losers was Africa Israel, which tumbled 12.8% after starting Wednesday with an 8% gain. So far Africa Israel, which belongs to Lev Leviev, has lost 87% of its peak value in May 2007. The last time Africa Israel stock sank this low was at the start of 2004.

Israel Chemicals tumbled 4.3% on turnover of NIS 310 million. The company's market capitalization is now at NIS 57.6 billion, down from a peak of more than NIS 100 billion earlier this year. ICL's parent company, Israel Corporation, also bowed to the bears and lost 4%.