By Richard Hubbard
LONDON (Reuters) - European shares and the euro steadied on Tuesday, a day after a sharp selloff caused by rising political risks in southern Europe, as new data confirmed the region's economy is showing clear signs of recovery.
The euro, which had taken the brunt of the selling and fallen from a high of over $1.37 at the end of last week to below $1.35 on Monday, recovered to be up 0.1 percent at $1.3530.
European shares which have tracked a similar path from closing near two-year highs on Friday to shedding most of the year's gains in Monday's sell-off, also staged a modest advance.
Most analysts see this week's gyrations as a necessary correction to a rally linked to signs of increasing euro zone economic stability and an improving global outlook, underpinned by the easier monetary policies of major central banks.
"What we are looking at, at the moment, is a correction, a consolidation or even a 'baby risk-off'," said Philippe Gijsels, head of research at BNP Paribas Fortis Global Markets in Brussels, referring to investors selling higher risk assets.
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"Nevertheless our working hypothesis remains that, after the correction, the trends in place before will continue, as the two main drivers are still there - namely central banks continuing to inject liquidity and more and more proof of an economic recovery," he added.
The markets regained composure on Tuesday after new data confirmed the euro zone's still struggling economy was starting to turn around.
Markit's Eurozone Composite PMI, which gauges business activity across thousands of companies and is seen as good gauge of future growth, rose in January to a 10-month high of 48.6 - though this still means the region's economy is contracting.
"The euro zone is showing clear signs of healing, with the downturn easing sharply in January and the region moving closer to stabilisation in the first quarter," said Chris Williamson, chief economist at Markit.
But the data also highlighted a growing divergence in the euro zone between the performance of its biggest economy, Germany, and those of other partners, leaving some lingering doubts about the region's prospects.
Markit's composite German PMI chalked up its biggest one-month rise since August 2009, reaching its highest since June 2011. But in neighbouring France it fell to its lowest level in nearly four years.
"The downturn we saw at the end of last year is starting to peter out, but I don't think we're going to see any spectacular growth yet," said Peter Westaway, chief European economist at Vanguard Asset Management.
After the data the broad FTSE Eurofirst 300 index of top European shares was up 0.5 percent while London's FTSE 100, Paris's CAC-40 and Frankfurt's DAX were between flat and 0.5 percent higher.
Analysts said the euro and equity market could see further volatility on Thursday when the European Central Bank holds its monthly policy meeting and President Mario Draghi is due to address a news conference.
GLOBAL CORRECTION
MSCI's world equity index was down around 0.2 percent reflecting an earlier sell-off across Asia when investors joined in the global correction in prices and ignored positive economic news from China.
The HSBC China services purchasing managers' index rose to a four-month high of 54 in January, underlining the strengthening momentum in the world's second-biggest economy, which is expected to grow 8.1 percent this year.
The MSCI index of Asia-Pacific shares outside Japan was down 0.9 percent, led by a steep 1.7 percent fall in Hong Kong shares, after the pan-Asian index had climbed to an 18-month high on Monday.
Investors will next look at data from the vast U.S. services sector, due later on Tuesday, to gauge the monetary policy outlook; recent releases have painted a mostly upbeat picture of the world's largest economy.
U.S. stock index futures pointed to a slightly firmer open on Wall Street ahead of the data after the renewed worries about the euro zone saw the S&P 500 index post its worst day since November on Monday.
BONDS STEADY
Bond markets were also stabilising on Tuesday after the sudden upsurge in political worries about Spain and Italy had sparked a sharp rise in yields on peripheral euro zone debt and fresh demand for safe-haven German government bonds.
Spanish 10-year government bond yields eased back 1.5 basis points to 5.43 percent, while equivalent Italian yields were a single tick lower at 4.47 percent.
German Bunds meanwhile rose slightly to be up 1.5 basis points at 1.63 percent.
Commodity markets were moving in opposing directions.
Oil, which has dropped almost 1.5 percent since the start of the month, had inched up to $115.60 per barrel, while growth-attuned copper, platinum and palladium all slipped from multi-month highs, dragged down by patchy U.S. data and a stronger dollar.
Gold, which has been trapped in a tight $1,660 to $1,680 range since late last week, again saw little movement with investors increasingly wondering whether its 12-year rally is now over.
Monetary stimulus was a key driver of gold's rise in the last few years, and an improving U.S. economy has stirred thoughts that the Federal Reserve might curtail the bond-buying that has dominated its support efforts.
"There was some physical buying interest around $1,660, but not much at this level," said Ronald Leung, a dealer at Lee Cheong Gold Dealers in Hong Kong.
"People are mostly waiting for more data from the United States to assess how the economy is and whether quantitative easing will continue."
(Additional reporting by Marc Jones and Atul Prakash; Editing by Alastair Macdonald)