European stocks halted a three-session drop on Wednesday, after European Central Bank policymaker Ewald Nowotny raised the prospect of steps that could boost the firepower of the euro zone's new bailout fund.

Nowotny said there are arguments for giving Europe's permanent rescue fund a banking licence, an idea that the ECB has rejected so far, sparking a rebound in the euro and in Spanish and Italian shares which had plummeted about 10 percent in the past three sessions.

France has been behind a push to give Europe's ESM bailout fund a banking licence as a way of tapping cheap ECB funding to take more aggressive action in the debt market crisis. The ECB has repeatedly rejected the idea, arguing it would be thinly disguised monetary financing of governments.

At 1126 GMT, the FTSEurofirst 300 index of top European shares was up 0.2 percent at 1,020.56 points, reversing early losses, while the euro zone's blue chip Euro STOXX 50 index was up 0.9 percent at 2,170.15 points.

Spain's IBEX was up 2.1 percent and Italy's FTSE MIB 1.8 percent, with Banco Santander up 2.5 percent and UniCredit up 3.2 percent.

The market is totally driven by headlines coming from policymakers and the prospect of further aggressive action from the European Central Bank, said Marc Renaud, chief executive of Mandarine Gestion, a Paris-based asset manager with 1.3 billion euros ($1.6 billion) under management.

Current prices of European stocks reflect all the jitters, and with such a negative mood, more action from policymakers could trigger a violent rebound in equities, which would be amplified by the low volumes we're seeing right now, he said.

Worries over Spain's ability to reduce its deficit and fix its economy have driven much of the weakness of riskier assets like equities this month and Madrid's high borrowing costs have sparked expectations it will soon need a full bailout.

Around Europe, UK's FTSE 100 index was up 0.2 percent on Wednesday, Germany's DAX index up 0.5 percent, and France's CAC 40 up 0.7 percent.

Over the past 12 months, the FTSE 100 has lost about 7 percent, the DAX is down 12.5 percent, the CAC down 20 percent, the IBEX down 40 percent and Milan's FTSE MIB down 36 percent. This compares with a flat S&P 500 over the same period.

DEUTSCHE BANK DROPS AFTER WARNING

Deutsche Bank sank 5 percent on Wednesday after issuing a profit warning, which fuelled worries the German lender may have to raise capital.

Deutsche Bank now stands out even more as a very weakly capitalised bank compared to European peers, following on from Credit Suisse's capital plan last week, wrote in a note Andrew Lim, analyst at Espirito Santo Investment Bank, who has a 'sell' rating on the German lender's stock.

Credit Suisse's stock was flat, missing out on the sector's rally, after hitting its lowest level in nearly 20 years on Tuesday in the wake of the 15.3 billion Swiss francs ($15.44 billion) capital-raising measures unveiled last week.

The bulk of European banks are set to report results in the next few weeks and are expected to post grim investment banking earnings and also the impact of a worsening economic backdrop for retail operations.

Daimler was up 4.1 percent after sticking to its forecast for roughly flat underlying profits this year, while posting a smaller-than-expected decline in results.

HALF OF COMPANIES MISSING FORECASTS

About a fifth of major European companies have reported results so far this earnings season, with half missing analysts' forecasts, Thomson Reuters Starmine data shows, and the worst showings in telecoms, materials and industrials.

The slowdown in the global economic growth remains moderate but it has started to drag companies' results and outlooks, which had been quite resilient so far, Barclays France director Franklin Pichard said.

Germany's closely-watched Ifo index of sentiment came in below forecasts on Wednesday while Britain's second quarter numbers were far worse than expected.

Despite Wednesday's gains, the Euro STOXX 50 index remains below the key 50 percent retracement of a rally from late May to last week, and chartists said the trend remains negative.

The next major support level for the index is the trendline formed by 2011 and 2012 lows, at around 2,080 points.