Asian shares fell on Monday on fears that mass sovereign debt rating cuts by Standard & Poor's would further aggravate euro zone funding difficulties, threatening to derail progress in resolving the debt crisis.
Worries that European financial troubles would and drag down global growth and sap appetite for commodities weighed on industrial metals such as copper, while a shift to perceived safe haven assets boosted Japanese government bonds.
MSCI's broadest index of Asia Pacific shares outside Japan <.MIAPJ0000PUS> fell 1.3 percent to its lowest in about one week, after reaching a one-month high on Friday. Japan's Nikkei average <.N225> shed 1.4 percent to a one-month low. <.T>
U.S. markets are closed on Monday for the Martin Luther King holiday, but S&P 500 futures traded in Asia fell 0.5 percent.
Tracking the Asian trend, European shares were set for a decline, with financial spreadbetters forecasting Britain's FTSE 100 <.FTSE>, Germany's DAX <.GDAXI> and France's CAC-40 <.FCHI> would open down around 0.4-0.5 percent.
The euro stood at $1.2637, having touched a low of $1.2624 on Friday, its lowest since late August 2010, according to trading platform EBS. Against the yen, it reached an 11-year low near 97 yen on Monday.
Euro-zone sovereign ratings: http://r.reuters.com/maf75s
Regional equity risk premium: http://link.reuters.com/mum95s
Real earnings vs trend: http://link.reuters.com/caq95s
Rating agency S&P on Friday cut nine of the euro zone's 17 countries, including top-notch France and Austria, and said it would decide shortly whether to downgrade the euro zone's bailout fund.
Adding to jitters, talks stalled over a Greek bailout, putting Athens under strong pressure to complete a deal with private bondholders to cut its debt to more sustainable levels or risk default in March when it has to redeem huge amounts of bonds.
Uncertainty over how the downgrades would affect the bailout fund's capability and European banks' recapitalization efforts is dampening markets sentiment, as it raises concerns about European banks trimming their loans in Asia, said Hirokazu Yuihama, senior strategist at Daiwa Capital Markets.
Sentiment had improved last week as Madrid and Rome managed to find investor support for their debt sales, although Italian bond yields bounced and German Bund futures hit record highs on Friday as an Italian debt sale failed to match market expectations.
The rating cuts will keep market focus pinned on auctions, with France and Spain providing another key test of investor confidence this week, but also increase pressure for urgent policy responses from European leaders.
Without ... action, Europe will be swept into a downward spiral of collapsing confidence, stagnant growth and fewer jobs, David Lipton, first deputy managing director of the International Monetary Fund, told the Fifth Asian Financial Forum in Hong Kong on Monday.
Pressed by the rating action, European leaders promised on Saturday to speed up plans to strengthen spending rules and get a permanent bailout fund up and running as soon as possible.
BANK CAPITALISATION EYED
Friday's rating cuts reduced the number of AAA rated countries guaranteeing the issuance of the European Financial Stability Facility (EFSF) to four, raising concerns about its lending ability, vital to containing the euro zone debt crisis.
A senior euro zone official said the EFSF can retain its AAA rating through higher guarantees from the euro zone's remaining triple-A countries or lower lending capacity.
Weakening support from the bailout scheme would worsen the position of European banks as they face a June deadline set to boost their capital buffers to 9 percent, forcing them to further slash riskier assets and refrain from buying euro zone debts.
Concerns about banks' growing risk-aversion will firmly cap the rise in assets such as commodities, which are otherwise set for a bull run, said Naohiro Niimura, a partner at research and consulting firm Market Risk Advisory Co.
Commodities should be supported by procurement needs at the start of a new year as well as by relatively cheap price levels after last year's fall. But as long as it remains unclear how banks would treat loans for riskier assets, commodities will remain pressured until June, he said.
The unclear outlook of the extent of damage from Europe's woes on the global economy also weighed on Chinese shares ahead of more economic data expected later this week, including Tuesday's gross domestic product for the last quarter of 2011.
Cautious sentiment returned to Asian credit markets, with spreads on the iTraxx Asia ex-Japan investment grade index widening by several basis points on Monday.
Reflecting a lack of direction, gold, which is typically a safe-haven asset, was barely changed.
Japanese government bond cash 10-year yields fell to 14-month lows of 0.935 percent.
We do not expect the market to be decisively adding risk and hence we stick to our recommendation to be tactically constructive, structurally short risk ... staying short risk and squaring the position in times when the sentiment improves, said analysts at Barclays Capital in a research note.
(Editing by Alex Richardson)