World stocks hit a fresh one-year low Thursday and investors poured money into safer currencies and government bonds after the Federal Reserve gave a grim outlook for the U.S. economy and China's manufacturing slowed.

The dollar rose to a seven-month high against major currencies as a broad sense of aversion to risk swept through financial markets.

The Fed set the ball rolling on Wednesday when it launched Operation Twist, a plan to lower borrowing costs by selling or not renewing short-term debt in favor of longer bonds.

The move was expected, but the Fed's statement of the rationale behind it was stark: There were significant downside risks to the U.S. economy.

It seems the market doesn't believe Operation Twist is enough to kick start the spluttering economy ... (and) a very downbeat outlook ... seems to have unsettled markets even further, said Ben Potter, market strategist at IG Markets.

Concern was increased Thursday when HSBC's China Flash PMI showed the factory sector shrank for the third consecutive month in September, pointing to a slowdown in the world's second-largest economy.

World stocks as measured by MSCI <.MIWD00000PUS> fell as much as 2 percent to a new year low, making for a 14 percent year-to-date loss. The more volatile emerging markets stock index <.MSCIEF> was down more than 4 percent for a 22 percent 2011 loss.

In Europe, where questions about the ability of the euro zone to manage some of its countries' heavy debt remain, stocks losses amounted to a 20 percent loss for the year-to-date.

The FTSEurofirst 300 <.FTEU3> fell 2.2 percent.

Japan's Nikkei <.N225> closed down 2.07 percent.


The mood drove investors to seek relative safety. The yield on 30-year German debt sank to a new record low as investors bought the paper.

The 30-year German benchmark yield fell to 2.538 percent, passing the previous lows seen in late August 2010.

Yields on 10-year U.S. Treasuries, the target of Fed activity, were down to just above 1.8 percent.

On currency markets, the dollar climbed to a seven-month high against major currencies.

The dollar's strength and the risk aversion that we have seen in recent weeks have picked up steam, said Tohru Sasaki, head of Japan rates and FX research at JPMorgan Chase.

The euro edged back toward a seven-month low of $1.3495 hit last week.

Indebted Greece, struggling to avoid default, made new budget-cutting pledges on Wednesday aimed at securing the next slice of bailout funding from international lenders.

As ever, the question is, will these measures be implemented and maintained by the current government and the governments to come?, Societe Generale strategists wrote in a note to clients.

(Additional reporting by Joanne Frearson, Antoni Slodkowski and William James)