The top share index fell on Wednesday on fears Italy could struggle to service its debts.
London's blue chip index <.FTSE> shed 96.85 points, or 1.7 percent to 5,470.49 by 1158 GMT, erasing the previous session's gains and having opened nearly 1 percent higher.
Financials <.FTNMX8350> <.SXIP> were hit hard as Italian 10-year bond yields ballooned to near 7.5 percent after Italy's Prime Minister Silvio Berlusconi promised to resign.
The move plunged the country's government into turmoil as it attempts to pass austerity measures in order to battle the country's crippling debts.
In response to the uncertainty embroiling Italy, clearing house LCH.Clearnet SA increased the extra deposit it demands from clients to trade all Italian government bond and index-Linked securities by between 3.5 and 5 percentage points.
Citigroup said rival clearing house CC&G could follow suit and while it is not the haircut being feared by the market, it is clearly removing liquidity from the system.
Investors were fearful banks and insurers' exposure to Europe's debt crisis could cost them dear.
When European leaders agreed their most recent bailout package, the deal imposed 50 percent losses on private sector Greek bondholders.
I'm not sure that they (Markets, Banks) could afford to take substantial haircut on the worlds fourth biggest bond market, Darren Sinden, trader at Silverwind Securities, said.]
Adding to the prevailing pessimism, Greece is scrambling to win emergency funds to avert bankruptcy as soon as next month with officials arguing over a new coalition government.
The market is just fed-up with it, and don't know what to do. I'd say the (European) region is close to uninvestable for U.S. investors anyway, said one London-based stocks trader.
Further depressing sentiment, Car insurer Admiral
Shore Capital cut back its EPS forecasts for Admiral for 2011 and 2012 by up to 8 percent and reduced its dividend estimates for the same years by up to 7.3 percent.
This is looking ominous and indeed, we could easily be into an unhealthy downgrade cycle for the group, Shore Capital said.
Miners <.FTNMX1770> and integrated oils <.FTNMX0530> reversed early gains which were made after Chinese inflation data eased worries over the potential for further monetary policy tightening, as fear gripped investors.
British oil firm Tullow Oil
While mid cap Energy services company Cape
Ex-dividend factors took 1.46 points off the FTSE 100, with Barclays
Among the short list of risers on the FTSE 100, Sainsbury
Sainsbury continues to fight its corner ... In all, whilst rivals remain more favoured, some thawing in opinion has been seen, said Keith Bowman, equity analyst at Hargreaves Lansdown Stockbrokers.
On the macro economic front, concerns over Britain's economy remain as it's goods trade deficit widened in September to its highest since the series began in 1998.
U.S. stock futures pointed to a sharply weaker open for equities on Wall Street, as gloom engulfs the Italian economy and ahead of September U.S. wholesale inventories due at 1500 GMT.
(Additional reporting by Jon Hopkins; Editing by Andrew Callus)