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* Banks deserted by funds spooked by sovereign woe
* Sell-off in financials will spread beyond France
* Euro zone needs political overhaul to resolve crisis
By Sinead Cruise and Cecilia Valente
LONDON, Aug 11 Long-only fund managers are pulling their money out of euro zone banks and sovereigns, worried the region's monetary union has neither the political cohesion nor financial firepower to prevent a re-run of the 2008 credit crunch.
Even without a formal fiscal union in place, investors say they are starting to see all euro zone states as financially accountable for one another's solvency, sparking a stampede to economies with greater freedom to plot their way out of the crisis, like Switzerland, Britain, the United States and Scandinavia.
"We have colossal debt burdens in some jurisdictions, colossal budget deficits and an inability to forge political unity at an early stage to short-circuit fears," Stephen Snowden, fixed income manager at 48 billion pound funds firm AEGON Asset Management, said.
French banks already reeling from writedowns on troubled sovereign debt suffered a dramatic sell-off on Wednesday amid fears the country could be called on again to bankroll rescue packages for the likes of Italy and Spain.
Those falls came a day after spreads on German credit default swaps widened beyond their UK equivalent for the first time, reflecting worry that Europe's largest economy was being dragged down by its efforts to support the euro zone laggards.
Sales of French bank paper and stock -- as well as those of other major lenders seen to be infected by exposure to the Euro zone -- look likely to accelerate as long-only investors hurry to offload risk, fund managers said.
Snowden said AEGON had slashed exposure to banks in its Investment Grade Bond fund by more than a quarter in the past four weeks. He cited BNP Paribas , Unicredit , Credit Agricole and Belgium's KBC among its recent disposals.
"The credit market is substantially broken as we speak," Snowden said.
Another fund manager at a different global investment house running around $100 billion in assets blamed the current volatility on "undue complexity" in the balance sheets of financial institutions -- making it hard for investors to track exposure to troubled credit. This is a popular criticism that the recent round of European bank stress-tests has failed to quell.
"(Price volatility) will spread across a broader set of institutions. I do not see why they picked on the French banks, you could name just about any bank ...and I think you can name any of the international insurers," the manager said.
"What you have got is an enormous set of assets, an enormous set of liabilities and very thin margins in the middle. If you are not exactly clear where you are in those enormous books, you have a high level of risk in the business."
Fund managers are stretching investment mandates and guidelines on hedging tools to their limits in an effort to protect their clients and avert a wave of redemptions that could hurt battered stock markets even more.
But making those unplanned bets pay requires canny reading of political runes as well as economic ones: a gamble most investment managers are unwilling to take.
Jean-Louis Nakamura, Chief Investment Officer in the asset allocation group at Lombard Odier Investment Managers said only a "thorough and rapid institutional revolution" in the euro zone would be sufficient to soothe market panic and boost demand for stocks and bonds of its banks and governments.
"While the U.S. suffered a one-off political problem, it doesn't have a deeper institutional issue. In contrast, the eurozone's structures for coping with its debt problems at the relevant monetary union level aren't even in place, let alone operational," Nakamura said.
Managers said a reversal in European Central Bank policies on quantitative easing and a rapid launch of euro bonds could slow a sell-off and even coax bargain-hunters back to the markets, but most are planning a long stay on the sidelines.
"There's a few of us out there who got badly burned in 2008 and don't think it is something we want to revisit," said Snowden.
"Clients rightly want answers when we get it wrong -- if you buy more while all this is going on, you have signed your own resignation letter." (Editing by Sophie Walker)