World markets sank Wednesday as investors were spooked by sharp losses in China that strengthened fears stocks are now overpriced after this year's powerful rally. U.S. markets were also set to open lower.
With a lack of new economic data across most of Europe and the U.S., investors focused on the jitters in Asia, where Shanghai's index fell as much as 5 percent on worries that the Chinese government's easy credit policy to support the economy will not fuel a sustainable recovery.
Germany's DAX fell 28.76 points, or 0.6 percent, to 5,221.98 while Britain's FTSE 100 dropped 20.46 points, or 0.4 percent, to 4,665.32. France's CAC-40 fell 11.48 points, or 0.3 percent, to 3,439.21.
In futures trading, the Dow industrials futures were down 74 points, or 0.8 percent, at 9,133 and Standard & Poor's 500 futures lost 8.4 points, or 0.9 percent, to 981.20.
The drops came after the Shanghai index plunged over 5 percent at one point before closing down 125.30 points, or 4.3 percent, at 2,785.58.
The index has lost nearly 20 percent this month on worries about corporate profits, the strength of China's recovery and possible changes in Beijing's easy credit policy that has helped to fuel the bull run in Chinese stocks this year.
"Global markets are entering a crucial period: with questions being asked of the global recovery's longevity as key sources of stimuli pass their peak, confidence in the outlook may not be so readily found amongst investors as was so clearly the case in the first half," said Neil Mellor, analyst at Bank of New York Mellon in London.
Wednesday's losses came on the heels of a steep fall in world markets Monday, when investors were dismayed by weakness in American consumer spending. That seemed to many to augur an end to the five-month rally that has boosted some benchmarks over 50 percent.
"We've had a very strong run and people are a little unnerved by what's going on in China, so it seems like a good opportunity to take some money off the table," said Adrian Mowat, chief Asian and emerging market equities strategist at JP Morgan in Hong Kong.
World stock markets have mostly been rising since March on relief that the economic crisis will be shorter than previously feared. But once many indexes reached new highs for 2009, investors started wondering whether stocks are overvalued. Considering trading volumes are limited by the summer holiday season, the uncertainty has caused markets to hover in a range over the past few weeks.
Stuart Bennett, senior foreign-exchange strategist at Calyon in London, said European stocks may be overreacting to the Chinese market movements. He said losses may be short-lived, considering the speed with which Monday's sharp drop was quickly stabilized on Tuesday.
"The ups and downs over the past few days and the inconsistent reaction to data and news still leads to the conclusion that the market does not know which way to point," he said.
In Britain, minutes published from the Bank of England's latest policy meeting showed three rate-setters wanted a larger monetary stimulus than announced. Led by governor Mervyn King, the three policmakers wanted to increase the amount of quantitative easing, or increasing the supply of money in the economy, by 75 billion pounds, not just 50 billion pounds. That suggests the central bank may not be done with efforts to spur the economy.
"If the recovery is weaker than the Monetary Policy Committee (MPC) expects, there is a good chance that the MPC will extend the quantitative easing program again in November," said Vicky Redwood, economist at Capital Economics.
Elsewhere in Asia, Japan's benchmark Nikkei 225 stock average lost 80.96 points, or 0.8 percent, to 10,204.00. Hong Kong's Hang Seng shed 1.7 percent to 19,954.23.
South Korea's Kospi fell 0.3 percent, India's Sensex was 1.5 percent lower and Taiwan's index was flat. Australia's benchmark lost 0.2 percent. Indonesia's market, another investor favorite this year, was down 2.7 percent.
Overnight in the U.S, stronger-than-expected retail earnings reports and the latest reading on housing sent markets to a higher finish following a bout of heavy selling on Monday.
The Dow rose 0.9 percent to 9,217.94. The S&P 500 gained 1 percent to 989.67, while the Nasdaq rose 1.3 percent to 1,955.92.
Oil prices fell in Europe, losing 27 cents to $68.92 a barrel. On Tuesday, the contract gained $2.44 to settle at $69.19.
The dollar fell to 94.24 yen from 94.70 yen, while the euro fell to $1.4106 from $1.4131.
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