March 14 (Bloomberg) -- The cost to protect the largest financial institutions from default soared after Bear Stearns Cos.' emergency bailout stoked concerns that other companies may also be on the brink of failure.

Credit-default swaps jumped on companies from student-loan provider SLM Corp. to commercial finance lender CIT Group Inc. and Lehman Brothers Holdings Inc., signaling a deterioration in investor confidence. Bear Stearns soared to a record after JPMorgan Chase & Co. and the New York Federal Reserve agreed to bail out the fifth-largest securities firm.

``This is the worst case scenario that's playing out right now,'' said Tom Houghton, who manages $2 billion of corporate bonds at Advantus Capital Management in St. Paul, Minnesota. ``It just raises all the fears now about counterparty risk, and it's just a snowball effect.''

Credit-default swaps used to speculate on the risk of default of banks and securities firms have doubled in the past three weeks as the slump in credit markets that began last year with collapse of the subprime-mortgage market worsened. Bear Stearns's announcement that its cash position ``significantly deteriorated'' in the past 24 hours triggered new worries that other banks may also not be able to meet their obligations.

Because the financial companies all do business with each other, taking sides in trades as counterparties, a failure by one of them could spark losses across Wall Street and increase the risk that another institution may also become stressed.

`Serious Issue'

``The biggest risk that faces the financial system is counterparty risk: if some large commercial or investment bank has a serious issue,'' said Mark Grant, managing director of corporate syndicate and structured products at Southwest Securities Inc. in Fort Lauderdale, Florida. ``And here we're seeing a serious issue.''

A benchmark gauge of default risk in the U.S. and Canada, the Markit CDX North America Investment-Grade Index, reached a record 197.5 basis points today before falling back to 190 basis points at the close of trading in New York, according to broker Phoenix Partners Group. The CDX index has soared more than 112 basis points this year.

Contracts on the Markit iTraxx Financial index tied to the subordinated debt of European banks and insurers jumped as much as 14 basis points to 282 before falling back to 272 at the close of trading in London, JPMorgan prices show.

Bear Stearns was the 12th-largest counterparty to credit- default swap trades in 2006, according to Fitch Ratings. Contracts linked to $45.5 trillion of debt were outstanding at the end of June, according to the International Swaps and Derivatives Association.

Standard & Poor's and Fitch Ratings cut the firm's credit ratings three levels to BBB today, two levels above non- investment grade. Moody's Investors Service cut them two steps to Baa1.

`A Horror'

``Bear Stearns is a big counterparty in the credit derivatives universe,'' said Jochen Felsenheimer, head of credit strategy at UniCredit SpA in Munich. ``If it were to default, definitely that situation is a horror. There would be huge distortions in the market. That is why the monetary authorities are trying to avoid any failure of banks.''

Barclays Capital analysts last month estimated that if a financial institution that had $2 trillion in credit-default swap trades outstanding were to fail, it may spark between $36 billion and $47 billion in losses for those that traded with the firm. That doesn't include ``large, potentially concentrated'' market value losses others would face, the analysts, led by Arup Ghosh in London, wrote on Feb. 20.

Bear Stearns

Credit-default swaps are financial instruments based on bonds and loans that are used to speculate on a company's ability to repay debt. They pay the buyer face value in exchange for the underlying securities or the cash equivalent should a borrower fail to adhere to its debt agreements. A decline indicates improvement in the perception of credit quality; an increase, the opposite.

Contracts protecting investors from a default by Bear Stearns in the next year traded at distressed levels this week as concerns grew the company was running out of money. Five-year contracts today rose 55 basis points to 730 basis points and earlier traded at a record 810 basis points, according to broker Phoenix Partners Group.

That means it cost $730,000 a year to protect $10 million in Bear Stearns debt for five years.

Contracts tied to Lehman jumped 55 basis points to 450 basis points, Phoenix prices show, the second-widest level after Bear of the five biggest U.S. securities firms. The contracts traded as high as 480 basis points earlier today.

CIT, SLM

For CIT Group's contracts, it costs $1.65 million upfront and $500,000 a year to protect $10 million of bonds from default for five years, CMA Datavision prices show.

For SLM, known as Sallie Mae, it costs $1.48 million upfront and $500,000 a year.

Merrill Lynch & Co., the biggest U.S. brokerage, rose 70 basis points to 365, Phoenix prices show. Contracts on Goldman Sachs Group Inc., the world's biggest securities firm, rose 35 basis points to 255. Morgan Stanley climbed 60 to 345.

``Today's revelation illustrates how bad things really are in the markets,'' said Peter Plaut, an analyst at New York-based hedge fund manager Sanno Point Capital Management.

To contact the reporters on this story: Shannon D. Harrington in New York at sharrington6@bloomberg.net; Caroline Salas in New York at csalas1@bloomberg.net

Last Updated: March 14, 2008 17:50 EDT