Asian stocks and the euro fell on Tuesday after ratings agency Standard & Poor's warned it might downgrade euro zone countries en masse if European leaders fail to produce a credible plan to solve the region's debt crisis at a summit later this week.
The unprecedented warning brought to a halt a rally in global equities that began last week and had continued on Monday, when the leaders of France and Germany agreed a plan aimed at guiding the region out of its two-year-old crisis.
We are entering a critical stage, said Kenichi Hirano, operating officer at Tachibana Securities in Tokyo.
There are high market expectations for positive developments out of the European leaders' meeting this week and if there are any indications that decisions will be pushed back it will have negative consequences for the market.
Oil and copper prices also retreated after the S&P statement, which came late in the U.S. trading day, while Wall Street index futures fell and U.S. Treasury yields edged down, indicating investors were seeking safety in the dollar.
MSCI's broadest index of Asia Pacific shares outside Japan <.MIAPJ0000PUS> fell 1.1 percent, with the heaviest losses in the growth-sensitive materials sector <.MIAPJMT00PUS>.
Tokyo's Nikkei share average <.N225> fell 0.8 percent, while S&P 500 futures eased 0.2 percent, pointing to a lower start for Wall Street after Monday's 1 percent gain. <.T><.N>
S&P said it had told 15 of the 17 euro zone countries, including Germany, France and four others with the top AAA credit rating, that it might downgrade them within 90 days, depending on the outcome of Friday's summit.
The warning took the sheen off a Franco-German agreement, to be put to other member states on Friday, to impose budget discipline across the currency area through European Union treaty changes.
The common currency eased around 0.2 percent to about $1.3370. It has steadily slipped from a peak around $1.3486 on Monday.
But traders were reluctant to sell the euro down too far at the start of a week heavy on major set-piece events, with the European Central Bank holding its final policy meeting of the year on Thursday and economists expecting an interest rate cut.
In addition to a 25-basis-point cut, with hints of further actions, we expect the ECB to provide additional support to banks in the form of a softening of collateral rules and more and longer liquidity operations, said Giuseppe Maraffino, strategist at BNP Paribas in London.
Such moves could support the battered euro, which has fallen back from a 2011 high near $1.50 struck in May.
The dollar <.DXY> rose around 0.2 percent against a basket of major currencies, while the yield on 10-year U.S. Treasuries dipped to around 2.06 percent.
Commodities, particularly those most sensitive to industrial demand expectations, were mostly lower.
U.S. crude oil futures fell 0.4 percent to $100.55 a barrel, while Brent crude fell a similar percentage to around $109.36.
Copper lost 1.4 percent to around $7,826 a tonne and gold held steady around $1,721 an ounce.
Spreads on Asian credit markets widened, reversing Monday's tightening trend, in a sign of renewed investor caution.
(Additional reporting by Mari Saito in Tokyo and Ian Chua in Sydney; Editing by Kavita Chandran)