Rising tensions in the Middle East added to the gloom. Oil prices soared more than a dollar to US$38.50 before giving back some of those gains because of the concern over China, which looks set to remain a drag on the global economy.

Manufacturing surveys showed Chinese factory activity contracted for a 10th straight month in December and at a faster pace than it shrank in November.

China’s central bank fixed the yuan at a 4½-year low and mainland Chinese shares fell 7 per cent. Stock exchanges halted trading on the first day as so-called circuit breakers came into effect.

The pan-European FTSEurofirst 300 index fell 2.5 per cent and the euro zone’s blue-chip Euro STOXX 50 index declined by 2.9 per cent. Germany’s DAX dropped 3.7 per cent. US stock futures were down 1.7 per cent.

The losses in Europe and the United States mirrored the move in MSCI’s broadest index of Asia-Pacific shares outside Japan, which posted its biggest loss since August 24 last year.

“(Equity) investors are not going to like the start of this year, particularly when you have news that trading was halted in China due to a market sell-off,” said Naeem Aslam, chief market analyst at AvaTrade.

Global oil benchmark Brent, which fell 35 per cent last year due because of fears of over-supply in a global slowdown, climbed more than a dollar to a high of US$38.50 per barrel, then slipped back to US$37.97.

The rise came as relations between leading crude producers Saudi Arabia and Iran deteriorated, raising concern supplies would be disrupted.

Saudi Arabia, the world’s biggest oil exporter, cut diplomatic ties with Iran yesterday in response to the storming of its embassy in Tehran. The attack came after the Saudis executed a prominent Shia cleric on Saturday.

The Saudi riyal fell sharply against the dollar in the forward foreign exchange market. One-year dollar/Saudi riyal forwards jumped to 680 points, near a 16-year high.

Safe havens

Those tensions prompted investors to seek the safety of bonds. Yields on triple-A rated German 10-year Bunds falling 6 basis points to 0.57 per cent.

The cautious mood toward riskier assets also helped the Japanese yen. The dollar fell below ¥119 for the first time since mid-October. Gold jumped more than 1 per cent to US$1,073.20 per ounce.

“Concern over the health of the Chinese economy accompanied by spiking tensions in the Middle East have combined to ensure ... firm demand for safe-haven assets,” Rabobank strategists said in a note.

The offshore yuan fell as low as 6.6331 to the dollar, its weakest since September 2011. Onshore, the yuan hit its lowest since April 2011, at 6.5350.

The euro firmed 0.4 per cent to US$1.0904.

Investors are wondering how much further the US Federal Reserve will raise rates this year after last month’s rate increase, the first in almost a decade.

An immediate focus will be today’s ISM survey of US manufacturing. The survey is expected to show manufacturing is still contracting after reaching a 6½-year low in November.

“It was quite unusual for the Fed to raise rates when the ISM is below 50, (which indicates contraction). And we are likely to see another month of contraction. We have to see how long this will continue,” said Masahiro Ichikawa, senior strategist at Sumitomo Mitsui Asset Management. — Reuters