Traders feared that the political chaos and riots across Greece would cause a default, which in turn would trigger a tsunami through the financial system – as the collapse of Lehman Brothers did in 2008.
Neil Mackinnon, an economist at VTB Capital in London and a former Treasury official, said: "The probability of a eurozone Lehman moment is increasing. The markets have moved from simply pricing in a high probability of a Greek debt default to looking at a scenario of it becoming disorderly and of contagion spreading to other economies like Portugal, like Ireland, and maybe Spain, Italy and Belgium."
London's FTSE 100 closed down 0.76pc at 5698.81, following a 1pc drop on Wednesday. Major exchanges in Germany and France plunged as well. Asian stock markets had already fallen overnight on Wednesday and US markets followed in early trading yesterday.
The euro hit an all-time low against the Swiss franc and fell 0.1pc against the dollar to $1.4161. The cost of insuring Greek debt against default also hit a fresh record. Five-year credit default swaps on Greek government debt rose by 124 basis points to 18.5pc. Greek debt is the most expensive in the world to insure, with the next closest being Venezuelan debt.
At the same time, yields on Greek and Portuguese benchmark 10-year debt hit new highs, up 27 basis points to 17.42pc for Greece and 18 points to 10.28pc for Portugal. Two-year Greek debt is paying 27.55pc annual interest as investors expect it to default. Spain was also caught up in the scare, with yields on 10-year debt hitting an 11-year high of 5.7pc. (read more)