After rising 248 points in early trade, the Sensex on Thursday surrendered all gains to close 72 points down at a fresh 1-week low on heavy selling after rating agency S&P's warning that India could be downgraded if the next government fails to reverse slide in economic growth.
A weak rupee and tepid global cues ahead of US GDP growth data and European Central Bank's rate decision, also affected the domestic market sentiment.
Shares of realty, consumer durables, banking, power, PSUs, capital goods and auto fell while IT and metal rose.
The Sensex opened higher and moved up to a day's high of 21,142.85 on initial buying on the back of capital inflows.
However, it declined afterwards to 20,797.06 before ending at 20,822.77, registering a loss of 72.17 points, or 0.35 %, as soon as news of S&P ratings filtered in.
This is Sensex's lowest closing after 20,570.28 on October 28.
The S&P, which affirmed the rating on India at 'BBB-/A-3' and retained negative outlook, triggered a wave of selling in the last 2 hours as investors were spooked by downgrade fears.
"Markets showed signs of panic selling in the afternoon. While the rating agency affirmed the current rating, it warned of a likely downgrade in 2014 if the new government fails to reverse India's low growth," said Milan Bavishi, Head Research, Inventure Growth and Securities.
India, which grew by over 9% for three years before the 2008 global financial crisis, is facing slowdown.
The growth rate fell to a decade low of 5% in 2012-13.
The Sensex has now lost over 417 points in the past three days in stark contrast to the jubiliant mood after the index closed at all-time high of 21,239.36.on Sunday.
Similarly, NSE index Nifty fell by 27.90 points to end at 6,187.25. Also, SX40 index of MCX-SX fell by 23.07 points.
Among the 30 Sensex constituents, 17 stocks fell led by RIL, SBI, ICICI Bank, BHEL, Bharti Airtel and Tata Motors.
Traders said investors booked profits in the intra-day up move. However, TCS, Infosys, ITC, HUL and Sun Pharma gained.
The rupee also fell to the lowest level in 5 weeks by plummeting to 62.73 per dollar and was last trading at 62.5.
In Asia, barring Taiwan, which moved up marginally, other indices of China, Hong kong, Singapore, Japan and South Korea declined. European stock markets also moved lower.
Key indices of France, Germany and UK eased by 0.08 % to 0.26 % in early trades.
Besides the ECB interest rate decision, global markets were awaiting the third quarter GDP growth of the US economy today, October payrolls data and the unemployment rate tomorrow.
This raft of data could influence US Fed's timing of paring its USD 85 billion a month bond purchases that has led to increase in FII inflows into emerging markets like India.
Coming back to the local market, major Sensex losers were BHEL (4.27%), SBI (3.17%), Tata Motors (2.76%), ICICI Bank (2.70%), Tata Power (2.44%), Bharti Airtel (2.03%), RIL (1.42%), Gail (1.01%) and Jindal Steel (0.90%).
However, Tata Steel rose by 3.64%, followed by Infosys (1.61%), TCS (1.41%), Bajaj Auto (1.12%), Hindalco (1.04%) and Sesa Sterlite (0.81%).
Among the S&P sectoral indices, BSE-Realty dropped by 2.62 %, BSE-Consumer Durables (2.26%), BSE-Bankex (2.11%), BSE-Power (1.97%), BSE-PSU (1.46%), BSE-Capiatl Goods (1.40%), BSE-Oil&Gas (1.17%) and BSE-Auto (1.01%).
However, BSE-IT rose by 1.25% helped by gains locked by TCS and Infosys on a weak rupee. The BSE-Metal rose 0.64% and BSE-Teck inched up by 0.61%.
The market breadth turned negative as 1,393 shares ended in the red while 1,091 shares finished in the green. 147 shares ruled steady. The total turnover rose to Rs 2,110.30 crore from Rs 1,882.43 crore yesterday.
Meanwhile, foreign Institutional Investors (FIIs) continued their buying spree as they bought shares worth Rs 271.70 crore as per provisional data from stock exchanges.