Analysts expect UK stocks to fall sharply in early trading today in the wake of the drop on Wall Street, which was sparked by worries about US corporate earnings and a drop in the dollar. The Dow Jones Industrial Average closed 247 points lower at 7695 and the FTSE 100 closed 125.5 down at 4866.
"I think market-makers will mark the stock market down reasonably sharply first thing on Monday, probably by another 50 points or so, and then there will be a pause," said Richard Jeffrey, an economist at Charterhouse Tilney. "The market will wait to see whether there's any buying interest at those sorts of levels. If there isn't, I think it will see a secondary markdown, or it might just bounce a little and wait for Wall Street to open."
Market jitters will be compounded by fears that US, German and UK interest rates may have to rise. On Tuesday the US Federal Open Market Committee meets, although analysts believe it will leave interest rates unchanged.
However, there is a growing concern the German central bank, the Bundesbank, might raise base rates on Thursday. The UK government is also expected to announce on Wednesday that annual retail sales grew by as much as 6 per cent in July, heightening fears that the economy is overheating and raising the spectre of higher interest rates.
Equity markets have recently scaled new heights in the UK and analysts were divided over whether Friday's fall marked a temporary blip or the beginning of a prolonged bear market.
"The markets are overvalued. It wouldn't surprise me to see the UK market fall back by another 10 per cent over the course of the summer and autumn," Mr Jeffrey said.
However, most analysts believe that although the fluctuations of the past few days may continue over the coming weeks, a crash on the scale of 1987 is not about to happen.
One senior equity strategist said the market, which had run away with itself in recent weeks, was looking overvalued and the fall was needed to calm things down. Other observers saw the share price fall as offering some buying opportunities. "At 5,100, cash was looking a safer bet, but at these levels, I'll pick up the phone and advise clients to get back into stocks," said Robert Buckland, UK stock strategist at HSBC James Capel.
Buyers are expected to continue to favour second-tier industrial firms over blue-chip stocks.