San Francisco Frontiers - Asian markets drop as US downgrade jolts latest rally

However, high hopes that the Federal Reserve is at or near the end of its interest rate hiking cycle and a still resilient economy meant the mood on trading floors remained broadly upbeat, analysts said.

Investors shifted away from riskier investments after Fitch cut the US debt rating by one notch from its AAA level, citing a growing federal debt burden and an "erosion of governance" that has manifested in debt limit standoffs.

The move follows a long, drawn-out row between Republicans and Democrats earlier this year to raise the US borrowing ceiling, which fuelled fears of a devastating default by the world's top economy.

While a deal was eventually struck, the saga rattled markets and reinforced the sense of long-running deadlock on Capitol Hill that has seen the gears of government jammed up.

Though the lifting of the US debt ceiling -- a limit on government borrowing to pay for bills already incurred -- was often routine, it has for several years become a contentious partisan issue.

The downgrade is the first by a major ratings company since a similar debt impasse in 2011 saw S&P lower its top-notch classification.

White House press secretary Karine Jean-Pierre said the move "defies reality", while Treasury Secretary Janet Yellen said in a statement that she "strongly" disagreed with Fitch, calling the change "arbitrary and based on outdated data".

The announcement meant it would be more expensive for the government to borrow. However, the risk-off sentiment sent traders rushing to safe assets, such as Treasuries, as well as the yen.

Chang Wei Liang, at DBS Bank, said: "High inflation and growth remain the key triggers for Treasury selling, with credit ratings shifts largely mitigated by the substantial stock of US private wealth, and a correspondingly large safe haven demand for US Treasuries."

Earlier, all three main Wall Street indexes dropped after news that US factory activity shrunk in July for the ninth consecutive month, hinting at softness in the economy.

Profit-taking added to the selling following a recent run-up fuelled by optimism that the Fed's rate hike last week would be its last thanks to an easing of inflation pressure.

The losses extended into Asia, where Hong Kong, Shanghai, Tokyo, Singapore, Seoul, Sydney, Taipei, Manila and Jakarta were all in the red.

Still, SPI Asset Management's Stephen Innes said the outlook was positive.

"While debt downgrades seldom, if ever, have long legs, investors may pause and let the dust settle before re-entering risk markets," he said in a note.

"However, within this super market-friendly environment of stable growth and a Fed close to the end of its hiking cycle creating fertile ground for stock gains, it's unlikely risk sentiment will wander too far off the soft landing path."

Oil prices, meanwhile, surged more than one percent after the American Petroleum Institute said US stockpiles plunged last week, sparking worries about supplies.

- Key figures around 0230 GMT -

Tokyo - Nikkei 225: DOWN 1.8 percent at 32,861.29 (break)

Hong Kong - Hang Seng Index: DOWN 0.5 percent at 19,916.77

Shanghai - Composite: DOWN 0.2 percent at 3,285.32

Euro/dollar: UP at $1.0990 from $1.0985 on Tuesday

Pound/dollar: UP at $1.2783 from $1.2776

Euro/pound: UP at 85.98 from 85.96 pence

Dollar/yen: DOWN at 143.20 yen from 143.34 yen

West Texas Intermediate: UP 1.3 percent at $82.42 per barrel

Brent North Sea crude: UP 1.3 percent at $85.97 per barrel

New York - Dow: UP 0.2 percent at 35,630.68 (close)

London - FTSE 100: DOWN 0.4 percent at 7,666.27 (close)

U.Lee--SFF