NEW YORK (Reuters) - An escalating nuclear crisis in Japan spread fear across financial markets on Tuesday that wiped out about $625 billion in value in stocks and drove investors to the safety of government debt.
Gold fell as much as 3 percent at one point as the worldwide equity selloff forced speculators to sell bullion to cover equity losses. It recovered some losses, however.
The global wave of risk aversion slammed oil prices, driving Brent crude futures below $108 for the first time in three weeks. But unrest in Bahrain and Libya helped pull oil prices off lows.
"Investors around the world have been collectively trying to reduce their risk exposures across the board," Mohamed El-Erian, the co-chief investment officer at Pacific Investment Management Co in Newport Beach, California, told Reuters.
"This is a vivid illustration of top-down factors totally dominating bottom-up considerations when it comes to investor positioning," said El-Erian, who helps oversee $1.1 trillion in assets.
European shares closed at their lowest in 3-1/2 months, the Nasdaq almost pared all its gains for 2011, and Japan's Nikkei average sank 10.6 percent, marking its worse two-day sell-off since 1987 after reports of rising radiation near Tokyo rattled investors.
An explosion at a crippled reactor at the Fukushima plant led to radiation drifting into Tokyo where people fled while others stocked up on essential supplies.
The nuclear crisis is equivalent to a six on the INES scale of nuclear accidents that ranges from 1 to 7, Kyodo news agency quoted the French Nuclear Agency as saying.
"It looks like the Japanese economy may be affected for a longer period than was thought last week," said Gene McGillian, an analyst at Tradition Energy in Stamford, Connecticut.
The "fear trade" sparked widespread selling in high-yield "junk" bonds, crude oil and global stocks, said Dan Fuss, vice chairman of Loomis Sayles, which manages more than $150 billion in assets.
MSCI's all-country world stock index .MIWD00000PUS, which was valued at about $28.6 trillion on Monday, shred more $1 trillion when Wall Street opened. But losses were pared almost in half as fears of widespread financial turmoil abated.
Government debt prices rallied, with German Bunds outperforming other euro zone bonds. However, analysts said gains may fade if slower global growth failed to derail an expected rise in euro zone interest rates.
Benchmark 10-year U.S. Treasury yields declined to their lowest levels in three-months, though much was retraced in the U.S. trading session. Tax-free U.S. municipal bonds, which typically rally when stocks sell off, gained sharply.
Munis, a $2.9 trillion market largely sat out Monday's worry-driven trade in Treasuries but gained on Tuesday.
Investor angst ran high. The CBOE VIX volatility index .VIX was up 15.1 percent.
Traders caught betting that prices would fall had to quickly reverse their positions.
The 10-year U.S. Treasury note shot up 18/32 in price, pushing its yield down 0.07 percentage point to 3.30 percent.
"The market will be very hesitant to set up new shorts after a rally like this," said Christian Cooper, head of dollar derivatives trading at Jefferies & Co. in New York.
Wall Street recouped some losses.
The Dow Jones industrial average .DJI was down 137.74 points, or 1.15 percent, at 11,855.42. The Standard & Poor's 500 Index .SPX was down 14.52 points, or 1.12 percent, at 1,281.87. The Nasdaq Composite Index .IXIC was down 33.64 points, or 1.25 percent, at 2,667.33.
The Japanese yen jumped against higher-yielding currencies as investors sold riskier assets in response to slower Asian economic growth. The yen, Swiss franc and U.S. dollar found support from hedge funds and Japanese retail investors.
Against the yen, the dollar was down 1.09 percent at 80.72 yen and the euro was up 0.06 percent at $1.3998.
"With the threat of a major nuclear disaster unfolding, the Nikkei suffered its third-steepest drop in history," said Camilla Sutton, senior strategist at Scotia Capital in Toronto.
Oil prices dropped sharply, with North Sea Brent crude sliding $5 to $108.67. U.S. light sweet crude oil lost $3.68 to $97.51 a barrel.
"We have a risk-off trade going on as a result of the issues in Japan," said James Steel, chief commodity analyst at HSBC bank. "There has been institutional liquidation and other liquidation globally as people are choosing to raise cash at this moment."
Spot gold prices fell $30.66 to $1,395.90 an ounce.
(Additional reporting by Jennifer Ablan, Ryan Vlastelica, Robert Gibbons and Emily Flitter in New York; Nia Williams, Joanne Frearson, Marius Zaharia in London; Writing by Herbert Lash; Editing by Kenneth Barry)