Asian shares were caught in choppy trade on Tuesday as investors remained cautious ahead of a European leaders summit which many believe will not produce any substantive measures to solve the region's protracted debt crisis, now in its third year.
MSCI's broadest index of Asia-Pacific shares outside Japan inched up as much as 0.2 percent and slid as low as 0.1 percent.
Japan's Nikkei average fell 0.5 percent to a one-week low.
"Sentiment is not one-sidely bearish, as low volatility in some local equities markets suggests relative stability, but the choppy trade reflects extreme caution before the European summit," said Hirokazu Yuihama, a senior strategist at Daiwa Securities in Tokyo.
"Investors want to see what direction the summit's outcome will point to. It's very unclear what specific agreements may actually be made, there could be compromises on forward-looking measures, so investors can't be entirely pessimistic," he said.
The euro edged up 0.2 percent at $1.2523, off a two-week low of $1.24713 hit on Monday when growing concern over the June 28-29 EU summit sent risk assets and the single currency sinking, while pushing up Italian and Spanish debt yields as contagion risks weighed on investor sentiment.
The two-day summit in Brussels will be the 20th time EU leaders have met to try to resolve a crisis that has spread across Europe since it began in Greece in early 2010.
A fifth euro zone country turned to Brussels for emergency funding on Monday when Cyprus announced it was seeking a lifeline for its banks and its budget, hours after Spain submitted a formal request to bail out its banks.
"With EM (emerging market) risks still subject to global/European market developments, investors will likely remain reluctant to make strong directional calls." said Barclays Capital analysts in a research note, adding that they would stay long in U.S. dollars, especially against European currencies.
Spain contagion feared
Spain has asked Brussels for up to 100 billion euros, saying it intends to sign a Memorandum of Understanding for the package by July 9.
Late on Monday, Moody's Investors Service downgraded the long-term debt and deposit ratings for 28 Spanish banks and two issuer ratings, following a cut to Spain's sovereign rating to just above junk status earlier this month.
The main driver behind the markets' pessimistic view was Germany's persistent resistance to issue common euro zone bonds to underpin its single currency, after German Chancellor Angela Merkel on Monday said sharing debt liability within the 17-nation euro area would be "economically wrong and counterproductive".
With the banking crisis in Spain, the fourth-largest euro zone economy, taking a toll on the country's debt refinancing costs, investors were feeling jittery about how Italy, the third-largest economy, would finance its huge public debts.
Italy plans to sell zero-coupon and inflation-linked bonds on Tuesday and medium- and longer-term bonds on Thursday.
Greece remained a drag on markets, with its new government calling for the renegotiation of the terms of its bailout, which is keeping the country from bankruptcy at a cost of heavy economic burden.
The European Commission, the European Central Bank and the International Monetary Fund must first assess Greek compliance with its 130 billion euro bailout agreement before any renegotiation can be considered.
A sluggish mood hit Asian credit markets as well, widening the spread on the iTraxx Asia ex-Japan investment-grade index by 3 basis points.
Mounting investor risk aversion lifted the CBOE volatility index, which measures expected volatility in the Standard & Poor's 500 index over the next 30 days, up 12.5 percent to a one-week high on Monday.
Oil, copper rise
U.S. crude was up 0.1 percent at $79.27 a barrel as forecasts of a drop in crude stockpiles supported prices, while Brent crude also added 0.3 percent at $91.30 a barrel.
London copper rose for a second session on Tuesday, up 0.7 percent at $7,388.25 a tonne, supported by promising U.S. housing data.
The prospect of improving growth in China, the world's second-largest economy, was also key to easing worries stemming from the financial turmoil in Europe.
A spokesman for the Chinese trade ministry said on Tuesday that Beijing's export growth is likely to improve for the rest of the year and the country can meet its 2012 target for 10 percent growth in trade.
