Fears of a Greek exit from the euro zone worsening the debt crisis facing other European nations gripped financial markets on Wednesday, sending shares and other riskier assets lower as investors shifted funds into safe havens like the US dollar.

The euro touched a fresh four-month low of $1.2883, Spanish and Italian bond yields rose, while the FTSE Eurofirst  index of top European shares hit its lowest level for the year at 983.95 points, down over 1 percent.

The probability of Greece leaving the 17-member currency bloc increased markedly after political leaders in Athens failed to form a government on Tuesday, forcing another round of elections. Opinion polls show this is likely to be won by leftist parties opposed to the country's bailout deal.

In response, markets have moved to price in an acceptance that Greece will leave the single currency, but remain very uncertain about what that means for the rest of the region.

'The idea that you can contain the spillover, the contagion, into the likes of Portugal, the likes of Spain, I just don't see that as being feasible,' said James Ashley, senior European economist at RBC Capital Markets.

As a result, yields on peripheral euro zone sovereign bonds have risen sharply as investors withdraw to safe havens like German government debt, although market participants say many investors were choosing to simply stay on the sidelines.

The benchmark 10-year Spanish bond yield rose four basis points to 6.41 percent after big gains on Tuesday.

The Italian equivalent was up a similar amount at 6.07 percent. Portugal's 10-year bond gained 22 basis points to 11.67 percent. The yield spread of emerging sovereign bonds over safer US Treasuries also widened to 3-1/2-month highs of 389 basis points .     

'The re-weighted probability of Greece leaving EMU has led to a sharp widening of government bond spreads, suggesting that long-term capital is leaving the periphery of Europe,' Morgan Stanley said in a note to clients.

There were also signs in Athens that the prospect of a rapid devaluation of any new currency if the country leaves the euro was concerning ordinary Greeks.

Central bank head George Provopoulos told political leaders  savers had withdrawn at least 700 million euros ($894 million) from the nation's banks on Monday.  The euro extended its recent falls on the mounting risk of a Greek exit, falling to a four-month low against the US dollar of $1.2683 and a three-month trough versus the yen. The dollar meanwhile rose to its highest in four months against a basket of currencies.

European shares were hit by a broad-based sell-off as the Greek concerns sapped investor appetite for risk, with the  FTSEurofirst 300 index down 0.9 percent to 989.27  having dropped 0.7 percent on Tuesday.

Emerging market stocks as measured by the MSCIEF index  plunged 2.75 percent and the index looked set to erase all its year-to-date gains on its way to its biggest one-day loss in six months.

Weakness in Asian share markets sparked by the Greek crisis  also saw MSCI's broadest index of Asia-Pacific shares outside Japan fall 3.3 percent to a new four-month low.

MSCI's global equity index was down 0.9 percent to 305.02 and is now up less than 2 percent for the year to date. - Reuters