Selling due to expiry of monthly equity derivatives amid a weak global trend also affected the sentiment, traders said.
Banking, realty, metal and oil&gas led 10 of the 12 BSE sectoral indices lower. Consumer durables and auto gained.
The benchmark Sensex, which tumbled to 20,343.78 intra-day, saw some fag-end buying that helped halve losses. It settled at 20,498.25 -- a level seen on November 27 -- down 149.05 points or 0.72 per cent from Wednesday's closing level.
In the 30-share index today, 19 constituents led by ICICI Bank, HDFC Bank, RIL, and SBI declined. Sesa Sterlite, Hindalco and Hero MotoCorp were among the biggest laggards.
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The 11 Sensex gainers included Tata Motors and Bharti.
Across the BSE, 1,714 stocks declined while 866 gained.
"Markets witnessed significant selling pressure throughout the January series. Tightening in the monetary policy along with reduction in QE by the FED led to further selling in domestic markets," said Sahaj Agrawal, Deputy Vice President- Derivatives Research, Kotak Securities.
In January so far, the Sensex has lost 672.43 points.
The poor show by Indian indices was in line with falling Asian stock markets, extending a global rout on renewed fears about emerging economies after the Fed cut.
The Fed, the US central bank, yesterday said it would reduce its massive bond-buying programme by USD 10 billion a month to USD 65 billion, citing a pick-up in the US economy.
The move, which follows a similar announcement in December 2013, stoked fears of capital flows from emerging markets as the US Fed gradually winds down it stimulus.