Asian shares and the euro fell Wednesday as signs that rising borrowing costs were affecting AAA-rated France stirred fears that even core euro zone members may not escape contagion from the region's debt crisis.
The political outlook remained unclear in struggling Italy and Greece as they attempt to push through severe austerity measures needed to get bailout funds and win market confidence. Prime Minister-designate Mario Monti was expected to unveil Italy's new government Wednesday.
MSCI's broadest index of Asia Pacific shares outside Japan <.MIAPJ0000PUS> fell 1.3 percent, while Japan's Nikkei stock average <.N225> slipped 0.1 percent Wednesday.
The euro hit a five-week low and was down 0.6 percent against both the dollar and the yen, standing at $1.3453 and 103.66 yen respectively, as euro zone jitters spurred risk aversion moves.
Markets are clearly expecting a circuit breaker to alleviate pressure on periphery bond yields, said David Scutt, a trader at Arab Bank Australia in Sydney. If no announcement is forthcoming in the days ahead, one suspects that situation could unravel fairly quickly.
Italian 10-year bond yields on Tuesday climbed back above 7 percent, a level of funding cost seen as unsustainable for the debt-ridden country, while Spanish 10-year bond yields rose to 6.3 percent.
The trend spread to France, where the premium over comparable German Bunds hit euro-era highs above 190 basis points. French banks are among the biggest holders of Italy's 1.8 trillion euro ($2.4 trillion) public debt pile, holding some $416 billion as of end-June, according to the Bank for International Settlements.
The premium over Bunds for Italian debt rose above 500 basis points, while the spread between European Financial Stability Facility bonds and Bunds has steadily widened.
Italy's five-year credit default swaps (CDS) -- a form of insurance against default -- hit a new high of 600 basis points, and Italian banks and corporates were the worst performers in the Markit iTraxx Europe CDS index on Tuesday.
Bearish sentiment was carried over to Asian credit markets, where waning investor appetite was reflected in a slight widening of the spreads on the iTraxx Asia ex-Japan investment grade index by about 5 basis points.
ECB ROLE EYED
The uncertainty over fiscal reforms in highly indebted euro zone countries has sparked heavy selling of bonds issued by these countries, prompting financial institutions to slash their bond holdings for fear of posting huge losses as prices plunged.
Pressures for banks to beef up their capital base have only exacerbated the situation as banks' accelerated deleveraging has further eroded their appetite for government debt.
Many analysts say the European Central Bank could stem this negative spiral by buying large amounts of bonds, under similar quantitative easing measures as undertaken by the U.S. and British central banks.
But Germany is resolutely opposed to such moves and the ECB has repeatedly rebuffed calls to become the lender of the last resort, saying it is up to individual governments to put their fiscal houses in order.
Borrowing difficulties have fueled concerns about fund raising in general, increasing strains in money markets.
Euro/dollar three-month cross currency basis swaps widened to -128.0 basis points at one point on Tuesday, the most since late 2008.
This indicates funding issues, the market getting very nervous, said a trader for a European bank in Singapore. Traders said this has also weighed on the euro.
As policymakers stand at odds in determining details of the roadmap to resolve the debt crisis, EU governments have until a summit on Dec. 9 to offer a bolder and more convincing strategy, including visible financial backing.
The sovereign debt problems have hurt the euro zone economy, which grew just 0.2 percent in the third quarter, data on Tuesday showed. Economists were resigned to the fact the bloc was almost certainly heading for a recession.
America, on the other hand, where economists expect gross domestic product growth of 1.8 percent this year, has shown another data suggesting its economy was likely to stay clear of a recession.
In the current environment, a 1- to 2 percent growth would be seen as a positive support for the market, Foster said.
U.S. stocks climbed on Tuesday after data showed October retail sales rose more than forecast, suggesting the world's largest economy began the fourth quarter with some vigor.
(Additional reporting by Ian Chua in Sydney and Masayuki Kitano in Singapore; Editing by Alex Richardson)