World stocks hit a two-week low on Tuesday as markets' focus turned back to weak global growth prospects and the euro zone's debt troubles after a U.S. budget deal that will knock more than $2 trillion off public sector spending in coming years.
Sluggish global manufacturing data on Monday added to concerns about the world economic recovery, while concerns that Spain and Italy will be the next victims of the euro zone crisis drove yields to 14-year highs.
An 11th-hour deal to raise the U.S. debt ceiling cleared its biggest hurdle in the House of Representatives, staving off the prospect of a default. But fears persisted Washington could still lose its triple-A credit rating.
Figures on Monday showed U.S. manufacturing grew at its slowest pace in two years in July.
The macroeconomic figures that we saw have certainly given investors serious considerations to question the speed of global economic recovery, said Keith Bowman, equity analyst at Hargreaves Lansdown.
In the background, we have got the rating agencies' potential comments on the U.S. credit rating.
Standard & Poors has warned there is a 50-50 chance the United States would lose its triple-A rating within three months unless it delivers meaningful deficit reduction.
MSCI world equity index <.MIWD00000PUS> fell for a fourth straight day, losing 0.6 percent on the day. European stocks <.FTEU3> hit a 9-month low while Italian shares <.FTMIB> fell to 27-month troughs.
The fear of the market is that the world is going into recession again... and in the euro zone the peripheral markets are the ones that will suffer most, said Alessandro Giansanti, strategist at ING in Amsterdam.
Emerging stocks <.MSCIEF> dropped 1.3 percent.
U.S. crude oil fell 0.7 percent. Bund futures rose 50 ticks.
The dollar <.DXY> rose 0.4 percent against a basket of major currencies while the euro fell 0.6 percent.
The U.S. currency lost a quarter percent to 77.19 yen, having come within a few ticks of its record low on Monday. Players are watching closely for signs of Japanese authorities moving to intervene to cool the yen's rise.
The 10-year Spanish government bond yield rose to 6.47 percent, its highest since 1997, pushing its yield premium over benchmark German Bunds to 403 bps.
The Italian 10-year BTP yields was also up by a similar amount at 6.27 percent.
The two countries have been under increased pressure in recent weeks as markets feel the size of the euro zone's EFSF bailout fund is too small to protect large fringe economies if contagion from the Greek crisis cannot be stopped.
Weakening global recovery momentum also meant it would become harder for peripheral countries to service their debt.
The positive tone seems to have evaporated after the ISM figures yesterday ... and 6 percent was seen as a line in the sand for Italian yields and now that that's gone people don't want any risk apart from Germany, a euro zone bond trader said.
(Editing by Patrick Graham)