LONDON: Sterling came off five-month highs and stocks traded sideways on Wednesday as the European Union and Britain sought to avert a disorderly Brexit before an EU summit on Thursday.
Hopes of a breakthrough lifted markets on Tuesday, but investors turned more cautious after looking for a deal during the night that never came.
Conflicting reports about the ongoing talks triggered a series of sharp moves on the pound. Reports that Germany might use emergency measures to counter any market panic from a hard Brexit, such as banning bets on falling share prices, also weighed on morale.
"Most of the good news that could have been anticipated has been priced in, and now there's caution it seems on whether we get a deal today or not," said Kallum Pickering, senior economist at Berenberg.
Sterling was down 0.4per cent against the dollar with investors trading volatility levels not seen since the 2016 June Brexit referendum.
The pound had strengthened by close to 5per cent over the past week as investors rushed to reprice the prospect of a last-minute Brexit deal before the Oct. 31 deadline.
Euro zone government bonds were also volatile on Wednesday as investors watched the eleventh-hour talks.
German 10-year government bond yields were last flat at -0.42per cent, after reaching an 11-week high of -0.397per cent as Bunds extended a sell-off that began on Tuesday.
British government 10-year bond yields were down 2.7 basis points at 0.67per cent, unaffected by data showing inflation in September reached 1.7per cent year-on-year, below market expectations.
The pan-European STOXX 600 retreated 0.1per cent, but Britain's domestically focused midcaps , a gauge of Brexit anxiety, fell 0.8per cent. Ireland's ISEQ , another vulnerable index, lost 0.6per cent.
Earlier, shares rose in Asia. MSCI's broadest index of Asia-Pacific shares outside Japan gained 0.5per cent. MSCI's gauge of stocks across the globe was flat.
"Even though we are most optimistic that a deal does happen, we don't think the most likely outcome is that it happens by October 31, so you would be looking at some form of extension and potentially elections," said, Andrew Sheets, chief cross asset strategist at Morgan Stanley.
Third-quarter earnings are expected to show an overall decline in earnings, which could also weigh on morale, Sheets said. Morgan Stanley had a below-consensus view on how companies would fare this quarter, he said.
Europe's companies are struggling with uncertainties ranging from Brexit and the U.S.-China trade war to Germany's manufacturing recession.
Companies listed on the STOXX 600 index are now expected to report a decline in third-quarter earnings of as much as 3.7per cent, worse than the 3per cent expected a week ago, according to I/B/E/S data from Refinitiv.
(GRAPHIC - European Q3 earnings: https://fingfx.thomsonreuters.com/gfx/mkt/12/7437/7368/Pastedper cent20Image.jpg)
Bloomberg reported, citing sources, that China will struggle to buy US$50 billion of U.S. farm goods annually unless it removes retaliatory tariffs on American products, which would require reciprocal action by U.S. President Donald Trump.
The U.S.-China trade war will cut 2019 global growth to its slowest pace since the 2008-2009 financial crisis, the International Monetary Fund warned on Tuesday.
Global gross domestic product is now expected grow 3per cent in 2019, the IMF said its latest World Economic Outlook projections, down from 3.2per cent in a July forecast, largely because of global trade friction.
U.S. stocks, which typically track the ups and downs of the trade war, were set to open in the red. S&P 500 futures and Nasdaq futures were both down 0.3per cent.
In commodities, Brent crude shed about 0.1 cent to US$58.66 a barrel. U.S. crude rose 10 cents to US$52.91 after falling the day before over fears the trade war would keep squeezing the global economy.
In emerging markets, Turkey's Halkbank saw its shares and bonds plunge after U.S. prosecutors charged the state-owned lender with taking part in a multibillion-dollar scheme to evade U.S. sanctions on Iran. A day earlier, Washington had imposed sanctions on Turkish officials, raised tariffs and halted trade talks after Turkey invaded northeastern Syria in a campaign again Kurdish fighters. Before Turkish markets opened, authorities banned short selling on seven large Turkish bank stocks, including Halkbank. Selling shares in the banks only to buy them later in the session was also banned, authorities said.
(Reporting by Julien Ponthus, Marc Jones and Olga Cotaga; editing by Larry King)