Ammon News - TOKYO (Reuters) - Chinese shares tumbled deeper into bear market territory on Tuesday, dragging down other Asian bourses, as worries spread that a cash squeeze could threaten China's economic growth and take the shine off an emerging U.S. recovery.

European stocks were seen choppy, with financial spreadbetters predicting London's FTSE 100 .FTSE, Paris's CAC-40 .FCHI and Frankfurt's DAX .GDAXI would open between a 0.1 percent rise and a 0.4 percent drop.

U.S. stock futures swung between negative and positive territory, pointing to another uncertain Wall Street open. .L.EU.N

Shanghai shares slumped more than 6 percent at one point to their lowest since early 2009, briefly pulling Hong Kong into the red, with losses accelerating for mid-sized banks as mainland inter-bank rates started climbing again.

"This is a market in capitulation, it's not worth trying to catch any technical rebound. We have seen this movie before, look at how much the market tanked in 2008," said Hong Hao, chief strategist at Bank of Communication International Securities.

The slide in the CSI300 .CSI300 index of the leading Shanghai and Shenzhen A-share listings pushed its relative strength index (RSI) to 13.7 - its most technically oversold level since the indicator was adopted in 2005.

By mid-afternoon, both the CSI300 and Shanghai Composite Index .SSEC had pared losses to 1 percent and Hong Kong's Hang Seng Index .HSI had clawed its way back into the black.

China's short-term cash rates soared last week after the People's Bank of China (PBOC) allowed money market funding to tighten to curb credit for China's lightly regulated and speculative "shadow banking" sector. The central bank's message to banks to manage and control lending better hit smaller banks hardest.

"The issue now is that these medium-sized banks' margins may be at risk, although that's exactly what the PBOC wants to see to stop the expansion of credit. However, the consequences this could have on (small and medium-sized businesses) is real and could have negative implications," said Chris Weston, chief market strategist at IG.

The broad-based slump in Chinese shares drove MSCI's broadest index of Asia-Pacific shares outside Japan .MIAPJ0000PUS down as much as 1.2 percent, extending Monday's 1.8 percent slide to hit an 11-month low. By 0630 GMT, it was off 0.2 percent.

The turmoil took its toll on Japanese equities, where sentiment had been boosted by a recently-resumed trend in yen weakness. The Nikkei stock average .N225 gave up early gains to slip 0.7 percent. .T

"Investors started worrying about how U.S. and European markets would react to drops in China, and they rushed to sell," said Naoki Fujiwara, a fund manager at Shinkin Asset Management.

Australian shares .AXJO eased 0.3 percent and South Korean shares .KS11 fell 1 percent.

Asian credit markets showed investor risk aversion remained elevated, with the spread on the iTraxx Asia ex-Japan investment-grade index widening by three basis points. The spread had spiked 20 bps on Monday, reflecting the rising cost of hedging against debt defaults.

DOLLAR TAKES BREAK

Less than a week after the Fed ignited a global market sell-off by announcing its plan to end stimulus, two Fed leaders - Minneapolis Fed President Narayana Kocherlakota and the head of the Dallas Fed Richard Fisher - downplayed an imminent end to monetary stimulus on Monday and said the acute market reaction was not yet cause for concern.

The dollar's rally slowed on the comments. It has been gaining on rising U.S. yields and the prospect of an improving U.S. economy that enabled the Fed to disclose its goal of cutting back the bond-buying that had channeled abundant funds to global markets and underpinned the prices of riskier assets such as shares.

The dollar index .DXY, measured against a basket of major currencies, was steady around 82.432, after rising to a three-week high of 82.841 on Monday.

U.S. Treasuries were steady in Asia on Tuesday.

Demand worries weighed on commodities especially copper. China accounts for around 40 percent of global refined copper demand.

London copper slid 0.8 percent to $6,621.75 a metric ton after falling to its lowest since mid-2010 earlier.

"The outlook doesn't appear too good because the Chinese government is not doing much. We have a double whammy from the U.S. and from China," said Joyce Liu, an investment analyst at Phillip Futures.

U.S. crude futures were down 0.4 percent at $94.80 a barrel while Brent fell 0.3 percent to $100.86.

Spot gold fell 0.2 percent to $1,278.29 an ounce, just a touch above its lowest since September 2010 of $1,268.89 hit on Friday.