(Updates with closing levels; adds quotes, details)
* FTSEurofirst 300 down 0.6 pct, trims last week’s gains
* Investors book profits on banking shares after ECB tests
* Morgan Stanley strategists remain ‘overweight banks’
By Blaise Robinson and Sudip Kar-Gupta
PARIS/LONDON, Oct 27 (Reuters) - European stocks fell on Monday as investors booked recent gains after the European Central Bank review of the region’s banks and a German business sentiment index dropped to its lowest in almost two years.
Most euro zone banking stocks ended the session in negative territory, trimming lofty gains made in the run-up to the results of the ECB review.
“Buy the rumour, sell the news: that’s what we saw today. Overall the results from the ECB tests are positive, but the rally had already happened,” FXCM analyst Vincent Ganne said.
Among the few gainers, shares in Austria’s Erste Group Bank added 3.5 percent and Raiffeisen Bank International rose 2.1 percent. Both banks passed the tests.
Overall, the STOXX euro zone bank index fell 2.3 percent, after surging 14 percent since mid-October.
Spain’s BBVA, France’s Societe Generale and Germany’s Deutsche Bank - which all passed the tests - ended the session down 1.5 to 2.8 percent.
Among the banks that failed the tests, Italy’s Monte dei Paschi tumbled 21.5 percent after the ECB review found it had the biggest capital hole to fill among European banks.
Overall, the results of the tests were considered positive by traders and fund managers.
“This is an important step for European banks on the road to a banking union,” Barclays France fund manager Philippe Cohen said. “The overall positive results of the tests will add to the ECB’s accommodative policy and should boost lending in the euro zone. Investors’ focus will now turn to data on lending in the region.”
Following the results of the ECB review, Morgan Stanley strategists reiterated their ‘overweight’ recommendation on European banking stocks.
“This is the sector with the most significant earnings rebound potential: RoEs (return on equity) are at the bottom of their 40-year range, but should rebound as provisions start normalizing from crisis-levels,” they wrote in a note.
The FTSEurofirst 300 index of top European shares ended 0.6 percent lower at 1,305.03 points. The index chalked up gains of 2.5 percent last week, recording its best weekly gain since December 2013 - a rebound that came after a month-long correction.
The surge in market volatility in the past few weeks is fuelling investor appetite for quantitative strategies, said Lionel Tangy-Malca, president of Paris-based YCAP Asset Management.
“Diversification becomes very important in these choppy markets because of the low correlation between asset classes,” he said.
The YCAP Risk Balanced index, which tracks a basket of equity, bond and commodity indexes, managed to stay broadly flat in the first half of October, Tangy-Malca said, while the FTSEurofirst 300 sank 10 percent.
Around Europe on Monday, UK’s FTSE 100 index fell 0.4 percent, Germany’s DAX index shed 1 percent and France’s CAC 40 lost 0.8 percent.
Hurting sentiment, the Munich-based think-tank Ifo’s business climate index, based on a monthly survey of some 7,000 firms, fell to 103.2 from 104.7 the previous month, suggesting Europe’s largest economy could be in for a bumpy ride in the fourth quarter.
Shares in TNT Express sank 6.8 percent after the Dutch logistics company issued a fresh alert over the impact of fierce competition and weak growth in its core markets.
Europe bourses in 2014: link.reuters.com/pap87v
Asset performance in 2014: link.reuters.com/gap87v
Today’s European research round-up
Editing by Tom Heneghan