Banking stocks plummeted with the overall markets Thursday on fears of a deteriorating job market and debt troubles facing foreign governments.

The KBW Bank Index fell 4.31%, to 44.21, its worst close in a month.

The Dow Jones industrial average, meanwhile, lost 2.61% and the Standard & Poor's 500 index fell 3.11%.

Stocks across the board fell sharply as the swelling deficits of Greece, Portugal and Spain put those countries at risk of default.

In the U.S., the Labor Department said unemployment claims last week rose 8,000, to a seasonally adjusted 480,000, above the 460,000 economists were expecting.

Joe Saluzzi, co-manager of trading at Themis Trading, said that after a nearly yearlong rally, investors seemed to be waking up to the reality that banks have a long way to go toward financial health.

The sovereign debt worries may have spurred a sell-off, but U.S. banks are mired in other severe problems, he said.

"We got a saying in the old market, the market takes the stairs up and the elevator down — that's the elevator down. This is long overdue in my opinion," Saluzzi said. "The issues that will haunt us always are unemployment and housing — the banks are in the middle of all of that."

It was a rough day for the largest U.S. banks.

Bank of America Corp. [BAC] fell 5.02% as the company and former Chief Executive Kenneth Lewis were sued by the New York attorney general, who alleged they defrauded investors and the government when the company bought Merrill Lynch & Co.

Citigroup Inc. [C] fell 19 cents to $3.19 as two executives that ran a proprietary trading unit quit to join a hedge fund.

JPMorgan Chase & Co. [JPM] declined 4.82% and Wells Fargo & Co. [WFC] fell 3.84%.
%; SunTrust Banks Inc. [STI], 5.46%; and Capital One Financial Corp. [COF], 4.38%.