* European shares down 1.6 pct <>, follows Asia's lead
* Fannie, Freddie worry rattles investors again
* Bonds rise on flight to safety; oil extends decline
* Dollar index hit its highest this year before retreating
(Updates prices, adds Wall St outlook, changes byline)
By Ian Chua
LONDON, Aug 19 (Reuters) - Concern about the health of the
financial sector drove global stocks to their lowest in nearly
two years on Tuesday, while the dollar ran out of puff after
rising to its highest this year against a basket of major
currencies.
Wall Street looked set to struggle at the open with U.S.
stock index futures <SPc1><DJc1><NDc1> all wallowing in negative
territory.
Underscoring a worsening outlook for global economic growth,
the Bank of Japan cut its assessment of the world's second
biggest economy, but a report showing a bounce in German
investor sentiment in August helped inject a glimmer of hope.
Still, investors were focused on the financial sector after
an article in Barron's renewed worries that a government bailout
was needed for the two biggest U.S. home finance providers,
Fannie Mae <FNM.N> and Freddie Mac <FRE.N>. []
"Overall the environment for equity markets remains very
difficult as it has now become clearer that we are witnessing a
more severe economic slowdown," said Tammo Greetfeld, a
strategist for UniCredit in Munich.
MSCI's main index for global stocks <.MIWD00000PUS> fell 0.9
percent to 332.50, having plumbed a session low of 332.12 -- a
level last seen in September 2006.
The FTSEurofirst 300 Index <> of top European shares
slid 1.6 percent, while MSCI's pan-Asia equities index
<.MIAS00000PUS> dropped 1.7 percent, after earlier hitting its
lowest level since July 2006.
Oil prices fell on expectations that a weak global economic
outlook would hit demand and as a tropical storm in the Gulf of
Mexico missed major oil and gas installations. U.S. crude <CLc1>
fell to a low of $111.64 a barrel <CLc1>.
Recent slides in commodity prices have now left the
Reuters-Jefferies CRB Index <.CRB> down nearly 20 percent from
levels seen in early July.
DOLLAR PAUSES, BONDS RISE
While falling crude prices weighed on energy shares, they
saved the dollar from the general credit market malaise by
buttressing expectations that the United States will not be the
only economy to suffer weak growth and fragile asset markets.
The U.S. dollar index <.DXY>, which tracks the greenback's
performance against a basket of six major currencies, rose to
77.413 -- the highest since December 2007 -- before retreating
to be little changed on the day.
"I'm assuming that what we've seeing is no more than some
well-timed profit taking. In the absence of any fresh news,
people will be only too well aware that the short-term technical
indicators are at extremely stretched levels," said Simon
Derrick, head of currency research, at Bank of New York Mellon.
"Everything else, you have to say, really still supports the
idea of the dollar continuing to make new ground. In particular,
I'd probably highlight the oil story."
The euro <EUR=> was flat at $1.4688, recovering from a fall
to $1.4631 earlier, while the dollar slipped 0.3 percent versus
the Japanese currency to 109.77 yen <JPY=>, off the session peak
of 110.32.
Investors found solace in safe haven government bonds,
helping drive the 10-year euro zone bond yield <EU10YT=RR> down
3 basis points to 4.11 percent and the 10-year U.S. Treasury
note yield <US10YT=RR> down 2 basis points to 3.80 percent.
(Additional reporting by Amanda Cooper and Veronica Brown in
London, editing by Swaha Pattanaik)
