MILAN (Reuters) - Italian bank Creval's (>> Banca Piccolo Credito Valtellinese SpA) move to raise cash in order to shed bad debts prompted investors to dump the shares of its domestic peers on Wednesday on concerns they may also need fresh capital.

Shares in Creval plunged 30 percent following the announcement of the share issue, dragging down Banco BPM (>> Banco BPM), Italy's third-largest bank, and BPER Banca (>> BPER), which both fell more than 5 percent.

Creval said late on Tuesday it would seek to raise up to 700 million euros (£618.7 million) in a share sale so as to rebuild capital while it writes down impaired debts and sells them off.

The bank, which has soured loans equivalent to just over a fifth of its total loans, aims to reduce that share to just above 10 percent by the end of next year and boost provisions to cover 74 percent of bad debts and 45 percent of unlikely-to-pay loans.

It would further cut the problematic loan ratio to just below 10 percent by 2020, while targeting a core capital ratio of more than 11 percent.

"Creval's targets confirm pressures from regulators to speed up bad loan reductions at banks which are more heavily exposed," Equita analyst Giovanni Razzoli said in a note.

"My impression is that in the short term banks will need to cut the impaired loan ratio to 10 percent with a lower medium-to-long-term target (5 percent) so as to allow the introduction of a common deposit guarantee and support progress in the banking union."

Italian banks hold a quarter of Europe's problematic loans and the European Central Bank has been pushing them to cut their soured loan ratio, which is more than three times the European average of 5 percent.

Creval follows in the footsteps of heavyweight UniCredit (>> UniCredit SpA), which this year raised 13 billion euros in a share issue to offset the hit from bad loan disposals.

Razzoli said banks such as Banco BPM, BPER Banca or Carige (>> Banca Carige SpA), where problem loans are more than a fifth of total loans, would be forced to overhaul their disposal strategies and may have to raise capital.

An Italian bank executive confirmed that a problem loan ratio of around 10 percent was now seen as a benchmark.

Applying Creval's targets to other banks would generate a capital shortfall of 1.65 billion euros at Banco BPM, 900 million euros at BPER and UBI Banca , analysts calculated.

Shares in Creval had already lost more than 30 percent since early October, when the European Central Bank published draft rules on newly classified bad debts which from next year will require scheduled provisions against losses.

The ECB is also due to review its guidelines on existing bad loans early next year and the draft rules fuelled concerns it may take a similar approach.

Authorities in Italy, where banks are vulnerable due to extremely lengthy recovery procedures, have put up a fierce fight against such a possibility and repeatedly argued against measures which translate into fire-sales of bad loans.

(Reporting by Valentina Za; Editing by Susan Fenton)

By Valentina Za