| NEW YORK
NEW YORK Stocks plunged worldwide and the euro suffered its biggest one-day percentage drop against the dollar in a year on Tuesday after Standard & Poor's cut its credit rating on Greece into "junk" territory and slashed its ratings on Portugal.
German Bund futures hit a session high after S&P cut its ratings on Portugal by two notches. The move by S&P sparked an investor flight to safe havens, driving up U.S. Treasury debt prices and sending gold to its highest price in 2010.
European equities slid at their fastest rate in five months, with the pan-European FTSEurofirst 300 index .FTEU3 closing down 3.1 percent and Portugal's benchmark index plunging 5.36 percent. The Greek bank index .FTATBNK plunged 9.23 percent, and European bank stocks skidded.
On Wall Street, the news on Greece and Portugal eclipsed strong earnings and drove stocks to their worst day in nearly three months. All three major indexes fell about 2 percent.
"It's contagion from the Greece crisis which has spiraled out of control," said William Sullivan, chief economist at JVB Financial Group in Boca Raton, Florida.
"There's a flight from sovereign debt issuers that have suspect national finances and some of the cash coming out of markets like Greece and Portugal is gravitating to Treasuries."
Standard & Poor's downgraded Greece into junk territory on concerns about its ability to implement the reforms needed to address its high debt burden, cutting its rating a full three notches to BB-plus, the first level of speculative, or "junk," status.
On Portugal, Standard & Poor's cited concerns about Portugal's ability to deal with high debt levels given the country's weak economic outlook. It cut the rating by two notches to A-minus, or four notches above speculative, or junk.
Investors had already been bracing for the next weak link in the euro zone, as Germany continued to hold out for strict conditions on the aid package offered to Greece by the European Union and the International Monetary Fund.
German Chancellor Angela Merkel has said that Greece must commit to further painful austerity measures and show that it can return to a sustainable economic path before Germany can approve aid.
"The contagion story is really going to take its toll," said Win Thin, a currency strategist at Brown Brothers Harriman in New York.
"There's just a feeling that even with all these downgrades, we're still playing catch-up and there's still more to bad news to come," he said. "People know Greece and Portugal are issues, but the gorilla in the room is still Spain."
In late afternoon trading in New York, the euro was 1.6 percent lower at $1.3173 according to Reuters data. The single currency traded as low as $1.3167 on Reuters data and $1.3166 on electronic trading platform EBS and registered its biggest one-day percentage drop at current prices.
Five-year credit default swaps on Greek government debt rose to a record high of 821 basis points from 710.3 basis points at the New York close on Monday. The cost of insuring Portuguese debt for five years rose to a record 370.3 basis points from 311.2 basis points.
Greece is hoping that the 45 billion euro ($59.97 billion) aid package from the EU and the IMF will arrive in time to finance a debt roll-over on May 19, but Merkel's comments have created market jitters as the timing for approving the package now looks tight.
Fears of a Greek default and contagion within the euro zone prompted a sell-off in Greek and Portuguese bonds. The Greek/German 10-year bond yield spread widened to 691 basis points -- the largest gap since at least early 1998 according to Bank of Greece data -- as investors demanded higher premiums to hold Greek debt.
U.S. EQUITIES POUNDED
In U.S. stock markets, the sell-off was broad, with economically sensitive sectors such as materials, energy, financials and consumer discretionary each falling around 3 percent.
The Dow Jones industrial average .DJI was down 213.04 points, or 1.90 percent, at 10,991.99. The Standard & Poor's 500 Index .SPX was down 28.34 points, or 2.34 percent, at 1,183.71. The Nasdaq Composite Index .IXIC was down 51.48 points, or 2.04 percent, at 2,471.47.
The CBOE Volatility Index .VIX, a favorite measure of investor fears, shot up 30.6 percent, the largest daily percentage gain since October 2008, to 22.81.
In addition to the sovereign ratings downgrades in Europe, financial stocks were in focus as executives of Goldman Sachs Group Inc (GS.N) testified before a U.S. Senate panel that is examining the bank's role in the financial crisis.
"The markets are really selling off on the combination of the widening sovereign debt crisis and the hammering that is going on in the Senate hearing," said Alan Lancz, president of Alan B. Lancz & Associates Inc in Toledo, Ohio.
"Just like in 2008, when you had one big company fall after another, you're now seeing this spread from Greece to Portugal," Lancz said.
In appearances before the Senate Permanent Subcommittee on Investigations kept financial stocks in focus, Goldman executives strove to fend off accusations they helped inflate the housing bubble and then made billions off its collapse.
Goldman shares managed to rise, closing up 0.7 percent, but the S&P financial index .GSPF tumbled 3.4 percent.
U.S. Treasury government bonds soared as investors fled to safe havens.
The benchmark 10-year U.S. Treasury note was up 30/32, with the yield at 3.69 percent. The 2-year U.S. Treasury note was up 6/32, with the yield at 0.96 percent. The 30-year U.S. Treasury bond was up 47/32, with the yield at 4.57 percent.
In currencies, the dollar was up against a basket of major trading-partner currencies, with the U.S. Dollar Index .DXY up 0.98 percent at 82.281 from a previous session close of 81.481.
In energy and commodities prices, U.S. light sweet crude oil fell $2.30, or 2.73 percent, to $81.90 per barrel. The Reuters/Jefferies CRB Index .CRB was down 5.20 points, or 1.87 percent, at 273.18.
Spot gold surged to its highest price in 2010, gaining as equities losses deepened. Gold hit a high of $1,171.25 an ounce, before easing to $1,168.75 an ounce.
(Additional reporting by Burton Frierson and Ciara Linnane in New York; Editing by Leslie Adler)