Frankfurt - Share prices tumbled in early trading in Europe on Monday as markets reacted to the financial turmoil triggered by the demise of US investment bank Lehman Brothers.

Germany's blue-chip DAX fell 2.8 per cent, while the Paris bourse lost nearly 3.5 per cent and the London Stock Exchange was down more than 2 per cent. In nearly all cases banking shares were hardest hit.

Traders in Frankfurt said there was no panic on the German market, noting that the 30-share DAX recovered slightly to 6,059 after slumping to 6,050 at the opening.

There was understanding in the market that the US government could not step in to bail out every bank that had overreached itself in mortgage market speculation, they said.

Lehman Brothers was expected to file for bankruptcy before the start of US trading later Monday, hours after financial services firm Merrill Lynch agreed to sell itself to Bank of America.

In Paris, the big losers of the morning included the banks Societe Generale and Credit Agricole, which were down more than 8 per cent in the first hour of trading.

They were followed by the insurance giant Axa, down by 7.66 per cent, and two more banks, Dexia and BNP Paribas, which had lost more than 5 per cent.

After one hour of trading, the Paris Bourse's benchmark CAC 40 had lost 3.39 per cent, to stand at 4,185.66.

British banks were hit by the fall-out from Wall Street as the London Stock Exchange's Financial Times Index slumped 2.72 per cent to 5,269.20 an hour after trading began.

The share price of Britain's biggest mortgage lenders, Halifax Bank of Scotland (HBOS), was down by about 10 per cent, as shares in the Royal Bank of Scotland (RBS) fell by more than 12 per cent.

Barclays, which had been one of the front-runners in efforts to rescue Lehman Brothers, saw its share drop by 6 per cent.

In Madrid, the country's two biggest banks, Santander and Banco Bilbao Vizcaya Argentaria (BBVA), were down 3.44 and 3.53 per cent respectively 40 minutes after trading started.

Banco Popular dropped by 3.33 per cent, Banesto 3.19 per cent, Sabadell 3.32 per cent and Bankinter 2.07 per cent in the Ibex-35 index

The Stockholm bourse dropped 3 per cent in early trading. Shares in the four main banking groups, including Nordea, were off 5 per cent, although Swedish banking groups have said they have not been exposed to the troubled subprime US mortgage market.

In Austria, shares traded on the Vienna stock exchange 3.9 per cent lower in the first hour. Erste Group Bank AG and Raiffeisen International Bank-Holding AG both lost more than 4 per cent.

The European Central Bank (ECB) said it was watching money market conditions closely in the eurozone, after the US Federal Reserve said Sunday it was taking measures to stabilize conditions on financial markets, including accepting a wider range of financial instruments as collateral.

Frantic negotiations throughout the weekend failed to produce a buyer for the venerable Lehman Brothers, leading to the bankruptcy plans.

In a deal announced late Sunday, Merrill Lynch & Co, a stock brokerage and investment bank, agreed to be bought out by Bank of America Corp for 50 billion dollars in stock.

The Lehman collapse follows more than a year of turmoil arising from the collapse of the US housing bubble and a high rate of mortgage defaults, which undermined Wall Street's market for mortgage-backed securities. (dpa)