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The dollar stabilized, holding most of its gains made the previous day on the China news, with analysts saying further gains in the U.S. currency may be limited given expectations the Federal Reserve will ease policy again as early as next month.

Commodity prices also steadied after falling sharply on Tuesday.

The MSCI index of Asia Pacific stocks outside Japan down 0.40 percent at 0325 GMT, after trimming some of its losses suffered earlier in the day.

"It is not clear whether the central bank will start on a process of additional rate increases under the pressure of asset price bubbles and hot money inflows, but this signal shows that the government is clearly concerned about escalating inflation and rising real estate prices," said Guo Yanling, analyst at Shanghai Securities.

Japan's Nikkei average slid 2.2 percent with investors scrambling to take profits on China's unexpected tightening and after worries about some U.S. banks pushed Wall Street lower.

It fell to an intraday low of 9,316.97 -- the lowest since September 15, with resource-related shares and exporters taking a hit.

"China's rate hike and the sharp fall on Wall Street were key factors that put a lot of downward pressure on the Nikkei. It could fall to around 9,200 in the near term," said Nagayuki Yamagishi, a strategist at Mitsubishi UFJ Morgan Stanley Securities.

The People's Bank of China, the central bank, said it would lift its benchmark one-year lending and deposit rate, effective on Wednesday, in a move some analysts said may suggest Beijing and Washington are working together to ease global currency tensions.

Hong Kong's Hang Seng Index was down 1 percent, with property firms taking a severe hit. Property stocks fell 1.7 percent after opening 2.4 percent lower while the Shanghai property sub-index was down 3.5 percent.

China Vanke, the country's largest listed developer, was down 4.5 percent.

But in a sign that the initial reaction to the rate rise may have been overdone, Shanghai's key stock index clawed back into positive territory after opening down 1.8 percent.

While a pull-back in riskier assets was due anyway after a recent heady run-up, China's rate hike also rattled investors as it sparked concerns the world's growth engine may be embarking on a policy tightening cycle.

At a time when growth in other major economies is tepid, many investors look to China to hold up global growth. So some are worried China may excessively slow its economy if it tightens too far.

Crude oil prices held steady after falling more than 4 percent on the rate rise, while spot gold also stabilized at $1,335.50 after sharp falls.

The yuan fell in early trade to 6.6588 per dollar compared with Tuesday's close of 6.6447, after the People's Bank of China (PBOC) set the currency's mid-point sharply lower in what was seen as an effort to prevent the interest rate rise from attracting more inflows of speculative capital.

(Editing by Kazunori Takada)

Yahoo, the No. 2 U.S. search engine behind Google, projected fourth-quarter revenue, excluding traffic acquisition costs, of $1.125 billion to $1.225 billion. Analysts were looking for revenue of $1.26 billion, according to Thomson Reuters I/B/E/S.

"The revenues were a little bit light and the guidance is also sort of uninspiring," said Clay Moran, an analyst at the Benchmark Company.

Moran said the 17 percent revenue growth from online display ads on Yahoo's owned and operated websites during the third quarter was weaker than expected.

Net income in the three months ended September 30 was $396.1 million, or 29 cents a share, compared with $186 million, or 13 cents a share, in the year-ago period. But Yahoo said its earnings included a 13 cent benefit from the sale of its "HotJobs" Web service. Analysts had expected earnings of 15 cents a share.

Net revenue, which excludes revenue it shares with website partners, totaled $1.12 billion in the third quarter, compared with $1.13 billion in the year-ago period and slightly below the $1.13 billion expected by analysts.

Yahoo shares have gained more than 6 percent since reports last week that a variety of private equity firms, including Silver Lake Partners, were exploring a potential buyout of the company. They were holding steady at $15.44 in extended trading on Tuesday.

(Reporting by Alexei Oreskovic; Editing by Richard Chang)

By Al Yoon and Jeff Mason

NEW YORK/WASHINGTON (Reuters) - Big banks took a hit on Tuesday as investors threatened to seek redress over questionable mortgage bonds and the White House warned it would hold lenders accountable for any illegal foreclosure practices.

Shares of big mortgage servicers fell as the market digested moves by a group of investors that could force Bank of America to repurchase billions of dollars of loans.

With pressure mounting for a tougher response by the Obama administration just two weeks before congressional elections, U.S. regulators probing the foreclosure crisis planned to meet on Wednesday amid concerns it could undermine the fragile housing market and the broader economy.

Bank of America and GMAC Mortgage, two of the largest mortgage servicers, faced criticism they were acting too fast in announcing the lifting of foreclosure freezes they imposed in response to accusations of shoddy paperwork.

The foreclosure fiasco has drawn attention to mortgage-related problems at banks, including a trend toward these so-called "putbacks" by holders of mortgage securities.

Bank stocks had recovered some ground Monday after heavy losses last week on fears the foreclosure problems could curb bank earnings.

The putback threat, where investors accuse lenders of misrepresenting the loans that underpin securities, appeared to unnerve investors once more.

"This is more octane for the sell-off," said Todd Schoenberger, managing director with LandColt Trading in Wilmington, Delaware.

INVESTOR ACCUSATIONS

A group of large investors has accused Bank of America of mishandling mortgages packaged into bonds, but the bank said it would fight being held responsible for the investors' losses.

The investors said the bank sold them $16.5 billion in bonds backed by mortgages that should never have been put in their bonds in the first place. The Federal Reserve Bank of New York is in the group, a person familiar with the matter said. Bloomberg reported that the group also includes asset managers Pimco and BlackRock Inc.

Dan Frahm, spokesman for Bank of America Home Loans told Reuters, "We believe we've complied with our obligations."

Shares of Bank of America, the largest U.S. mortgage servicer, closed down 4.4 percent. Wells Fargo shares lost 1.3 percent, JP Morgan Chase ended 1.4 percent lower and Citigroup lost 2.6 percent.

The foreclosure fiasco, in which banks are accused of using "robo-signers" to sign hundreds of foreclosure documents a day, has reignited public anger with banks, blamed for helping cause the recent financial crisis and recession.

The investors said that some mortgages should never have been included in the bonds in the first place, and that the Bank of America unit, Countrywide Home Loan Servicing, should force the original lender to buy them back.

The salvo is the latest effort from investors to push losses from mortgage securities back onto banks that made the original loans. Investors say the loans did not meet the standards that bondholders were promised when they bought the securities.

Countrywide Home Loan Servicing, now part of Bank of America, works on behalf of mortgage bond holders to collect payments on mortgages and work out bad loans.

The bondholders have issued a "notice of nonperformance," which gives Countrywide 60 days to fix the problems. If it does not, the investors can declare "an event of default," -- a technical violation of the terms of the bond, said Kathy Patrick, a partner at Gibbs & Bruns LLP representing the investors.

After an event of default, investors can sue.

On a conference call with investors, Bank of America CFO Charles Noski said the bank has received the letter and is reviewing the allegations.

It is not clear how successful efforts will be for mortgage bonds that were not guaranteed by Fannie Mae or Freddie Mac, analysts at JPMorgan said late last week.

Investors seeking redress have to establish a number of facts, including that they were hurt by the failure of the loans to meet the proper underwriting standards. That may be difficult, the JPMorgan analysts said.

This group of investors also said Countrywide failed to keep accurate loan records, a widespread problem in the industry that prevents investors from knowing how well loans are really performing.

Patrick said they hold more than 25 percent of the voting rights of some $47 billion of mortgage-backed securities, the minimum sign-on required for a notice of nonperformance.

(Editing by Jackie Frank)

Further weighing on stocks, China's central bank said it will raise its benchmark one-year lending and deposit rate by 25 basis points, effective Wednesday. Any signal that China is trying to cool its economy hampers equities.

"What we're looking for in the earnings reports is what companies have to say going forward," said Kim Caughey Forrest, senior equity research analyst at Fort Pitt Capital Group in Pittsburgh.

"The news out of China is probably impacting the first half of 2011. We don't want to see them cooling down."

Apple Inc's (AAPL.O) shares, which hit a lifetime high on Monday, fell more than 5 percent in premarket trade and ripped a hole through Nasdaq futures overnight after it reported its iPad shipments came in below expectations. It also issued a conservative outlook for the current quarter.

International Business Machines Corp (IBM.N) said it won fewer technology services deals than expected in the third quarter, sending its shares 3.5 percent lower premarket, although it announced stronger profits and raised its full-year outlook.

Results from Bank of America Corp (BAC.N) gave small support to equities, helping futures pare some losses. Shares of the largest U.S. bank by assets rose 1 percent in premarket trade.

S&P 500 futures dropped 9 points and were below fair value, a formula that evaluates pricing by taking into account interest rates, dividends and time to expiration on the contract. Dow Jones industrial average futures fell 45 points and Nasdaq 100 futures lost 26 points.

Ray Ozzie, the Microsoft Corp (MSFT.O) executive who took over the role of chief software architect from Bill Gates, is to step down, following a tenure in which the Windows-maker lost ground to Google and Apple.

Microsoft shares were down 2.5 percent premarket.

A number of Federal Reserve officials will be speaking on Tuesday, and the schedule includes remarks from Chairman Ben Bernanke at 4 p.m. (2000 GMT).

The U.S. Commerce Department releases housing starts and building permits for September at 8:30 a.m. (1230 GMT). Economists in a Reuters survey forecast a 580,000 annualized housing-start rate versus 598,000 in August, and a total of 580,000 permits in September compared with 571,000 in the prior month.

U.S. stocks advanced on Monday as stronger-than-expected profit from Citigroup Inc (C.N) helped financial shares shake off worries that an investigation into foreclosures could threaten the stability of the housing market.

(Reporting by Rodrigo Campos; Editing by Padraic Cassidy)

It said it was raising benchmark rates by 25 basis points, taking one-year deposit rates to 2.5 percent and one-year lending rates to 5.56 percent.

The impact was felt by global markets across the board. Oil prices fell, stock markets turned negative in Europe and the dollar rose as investors were caught off guard by the tightening step.

"The interest rate rise is entirely outside of market expectations," said Zhu Jiangfang, chief economist at CITIC Securities in Beijing.

"The recent rise in headline inflation has put the real rate into negative territory. And I think that's why the central bank needs to raise interest rates in such a hasty way," he said.

Although announced by the People's Bank of China, the decision to increase rates would have received approval from the highest echelons of Chinese power, with Premier Wen Jiabao likely signing off on it.

Once a consensus has been forged in Beijing to raise or cut rates, past experience shows that moves often come in bunches.

In the view of some, it is about time for China to embark on a more aggressive tightening cycle. To date, it has relied on lending restrictions and banks' reserve requirements to keep growth from boiling over.

"Fundamentally, policy rates are just too low for an economy that's growing around 10 percent. To avoid bigger distortions, China needs to start moving rates to more appropriate levels," said Rob Subbaraman, an economist with Nomura in Hong Kong.

"China's economy looks as though it's decoupling from other major economies, and its policies should as well," he said.

DEBATED BUT UNEXPECTED

A number of leading economists, including some advisers to the central bank, have urged an increase in deposit rates to keep savers' returns in positive territory.

China reported consumer inflation of 3.5 percent in the year to August and economists expect that the pace climbed to 3.6 percent in September.

Still, the increase in rates is surprising given that several top leaders have recently expressed confidence that inflation is under control, and have said that higher rates would potentially suck in speculative capital from abroad.

"They did it now likely because Thursday's GDP and CPI data is too strong for them," said Dariusz Kowalczyk, senior economist at Credit Agricole CIB in Hong Kong.

Third-quarter shareholder net income fell to $1.9 billion, or $2.98 a share, from $3.19 billion, or $5.25 a share, a year earlier.

Analysts on average expected $2.32 a share, according to Thomson Reuters I/B/E/S.

"Even though expectations were lower and even though the EPS numbers were reduced dramatically in the past couple of weeks, it's still a much more positive release than many of their competitors," said Matt McCormick, portfolio manager at Bahl & Gaynor Investment Counsel Inc.

New York-based Goldman has found itself in the crosshairs of regulators this year, first defending against fraud charges from the U.S. Securities and Exchange Commission, and then preparing to reshape trading businesses to comply with the financial regulation reform bill.

Trading profits, which motored Goldman's rebound from the financial crisis, have weakened.

Goldman reported net revenues in fixed income, currency and commodities of $3.77 billion, down 37 percent from a year ago. The firm attributed the drop to a challenging environment in which activity levels dropped significantly.

Equities trading net revenues were $1.05 billion, down 43 percent.

A bright spot in the earnings was Goldman's investment banking division, which reported net revenues of $1.12 billion, up 24 percent.

Goldman, which has faced a backlash over its pay practices, set aside $3.83 billion for compensation in the third quarter, bringing its total pool to $13.12 billion for the year, down 21 percent from a year ago.

Goldman shares were up 30 cents to $154.00 in premarket trading.

(Reporting by Steve Eder; Editing by John Wallace)

WTO Director-General Pascal Lamy said governments had largely resisted resorting to conventional trade measures such as higher tariffs to protect jobs in the wake of the crisis, but friction over exchange rates risked undermining that.

"For the moment it's a risk, but it's a risk that can be dangerous for trade," he told reporters late on Monday.

Lamy has in the past refused to get involved in discussions about currencies, arguing that such matters are primarily the mandate of the International Monetary Fund.

But the comments, following an interview in a British newspaper on Thursday, indicate that the body that polices world trade is getting increasingly concerned about currency policies.

Currency tensions are likely to dominate next month's summit of the G20.

The United States and European Union are calling on China to let its yuan appreciate, China has condemned lax monetary policy in the United States for distorting the global economy, Japan and Switzerland have been selling their currencies to ward off deflation and emerging economies from Thailand to Brazil are seeking to block inflationary capital inflows.

Underlying these disputes, economists say, is the fear that countries will slip into a tit-for-tat round of devaluation to make exports more competitive and preserve jobs.

WTO rules do include an article that requires members not to circumvent trade agreements through exchange rate policy.

But this measure has never been tested in a WTO dispute.

Lamy declined to comment on the bill passed by the U.S. House of Representatives that would allow the U.S. government to treat China's undervalued currency as a subsidy and impose countervailing duties in response.

(Reporting by Jonathan Lynn; Editing by Jon Boyle)

In a monthly report, the government downgraded its assessment of the economy for the first time since February 2009. A senior Japanese official said further pressure on the economy, which is mired in stubborn deflation, could tip it into recession.

"If the economy turns out as expected in our main scenario, we may end up describing the current situation as a soft patch," said the official at the Cabinet Office, which compiled the report.

"But if it comes under further downward pressure, it could end up slipping into recession," he said.

Faltering recoveries from the global financial crisis in developed economies have pushed global investors into emerging markets in search of higher returns, driving up their currencies.

The move has been exacerbated by widespread expectations that the U.S. Federal Reserve will print billions of dollars to try to lift the U.S. economy, sparking concerns that the extra liquidity will find its way into emerging markets.

The currency tensions will dominate a Group of 20 finance ministers' meeting in South Korea starting on Friday and a G20 summit in November, as officials look to tackle the economic imbalances and the threat of competitive currency devaluation.

"Currencies will be the topic that many people will be talking about ... at the G20. I hope that good ideas will be put forward there and we will explain the present situation in Japan," Finance Minister Yoshihiko Noda said.

Japan's policymakers have grown increasingly concerned by a slowdown in growth in the export-reliant economy, prompting the government to draw up a supplementary budget and the central bank to offer cheap loans and to promise to buy assets.

A rise in the yen to a 15-year high against the dollar added to these woes, sparking the first currency intervention by Japan in six years.

YEN'S RISE HURTS

The latest assessment by the government was the first time since July 2008 -- just before the onset of the last global recession -- that it had described the economic situation as at a standstill.

It said the economy could be depressed by a slowdown in the global economy and swings in share prices and foreign exchange rates as a rising yen threatens exports.

"Economic movements appear to be pausing recently," the report said, while repeating that the economy was in a mild deflationary phase.

Previously, it had said the situation was becoming increasingly severe although the economy was recovering, with some movement seen toward a self-sustaining recovery.

The World Bank buttressed the argument made by China and others that U.S. policies are sending a wave of cash flowing into higher-yielding emerging markets, undermining their export competitiveness and pumping up inflation and asset bubbles.

"We are seeing an effort by developing East Asia to deal with the large amounts of liquidity driven in very large part by the monetary policy easing in the United States," Vikram Nehru, the bank's chief economist for Asia-Pacific, told reporters in Tokyo.

Nehru, presenting a semi-annual report, urged policymakers to learn the lessons of the 1997/98 Asian financial crisis, when an influx of footloose global capital inflated property and equity prices, only for them to collapse when the money flows reversed.

"The authorities in East Asia need to take adequate precautions to ensure that they do not repeat the same mistake twice in slightly over a decade," the report said.

While capital controls were not very effective in controlling long-term investment flows, Asian countries had an array of instruments to deal with rising inflows, the World Bank said.

"If this liquidity abundance is sustained and increases, I think they are going have to take further action," Nehru said.

Thailand introduced a withholding tax on foreign purchases of government bonds last week, and Brazil on Monday increased an existing tax on foreign bond buyers to 6 percent from 4 percent.

Foreign investors in Brazil will also have to pay more tax to trade currency derivatives, blamed in part for driving up the real, the country's currency, to a two-year high.

"Our objective is to reduce foreign investment into Brazil," Finance Minister Guido Mantega told reporters in Sao Paulo.

YUAN VS DOLLAR

Strains over the constellation of exchange rates needed to put global growth on a more solid, sustainable footing are likely to dominate a meeting of finance ministers of the Group of 20 major economies in South Korea starting on Friday.

The dispute boils down essentially to the exchange rate of the yuan, also known as the renminbi.

The United States, supported by most economists, believes Beijing is unfairly holding the yuan down to give its exporters an advantage in global markets.

This is causing a broader misalignment of global currencies, Washington contends, because other developing countries are reluctant to lose competitiveness versus China by permitting their own currencies to appreciate in isolation.