Europe stocks steady as M&A offsets Syrian worries

* FTSEurofirst 300 down 0.03 pct after hitting 1-wk high

* Short squeeze sends Nokia (Stockholm: NOKI-SEK.ST - news) up 40 pct after unit sale

* Syrian tensions keep gains in check

By Blaise Robinson

PARIS, Sept 3 (Reuters) - European stocks' week-long rally

paused on Tuesday, with a 40 percent surge in Nokia (Xetra: 870737 - news)

after Microsoft (NasdaqGS: MSFT - news) agreed to buy the Finnish firm's phone

business offset by brewing worries over Syria.

Israel (Other OTC: IRLCF - news) tested a U.S.-backed missile system in the

Mediterranean on Tuesday but did not announce the launch in

advance, prompting a disclosure by Russia that kept financial

markets on edge.

At 1505 GMT, the FTSEurofirst 300 index of top

European shares was down 0.03 percent at 1,216.51 points after

hitting a one-week high earlier, with the STOXX Europe 600 tech

sector index surging 2.9 percent.

Alcatel (Paris: FR0000130007 - news) -Lucent jumped 9.1 percent and Ericsson (Xetra: 765913 - news)

was up 6.4 percent.

Nokia, once the world's dominant cellphone maker, said it

will be selling its handset business for 5.44 billion euros to

Microsoft.

The news sparked a massive short squeeze rally on Nokia's

shares - one of the most shorted stocks in Europe with 12

percent of shares out on loan - as hedge funds with negative

bets on the stock were caught off-guard by the deal and

scrambled to buy the shares back and close out loss-making

positions.

Hobart Capital director Justin Haque said the deal and the

ensuing spike in Nokia's share price would hammer hedge funds.

"It's going to be a long/short body bag job," he said.

The Nokia deal followed Verizon Communications' move

on Monday to buy Vodafone (LSE: VOD.L - news) out of their U.S. wireless

business for $130 billion, fuelling expectations of an M&A

revival that could support the market in the coming months.

"We are in an environment of growing merger fantasy for sure

as economic conditions are improving, companies are cash-rich

and interest rates are very low," Christian Stocker, equity

strategist at UniCredit (Milan: UCG.MI - news) in Munich, said. "I see more mega deals

taking place in the fourth quarter."

The FTSEurofirst 300 has gained 2.2 percent since a low last

Wednesday, gains that were fuelled by M&A activity as well as by

worldwide factory data showing the global economic recovery was

on track.

On Tuesday, the Institute for Supply Management said its

index of U.S. national factory activity rose to 55.7 in August

from 55.4 the prior month, easily beating expectations for 54.

"Things are improving, especially in Europe, and the 'great

rotation' out of bonds and into equities is under way. For

long-term investors, this is an amazing opportunity to get

exposure to stocks," said Eric Galiegue, head of Valquant, a

Paris-based financial research firm.