European shares pull back, still near 5-year highs

* FTSEurofirst 300 falls 0.3 percent

* Carmakers weaker after sales data

* Caution in market before Fed tapering decision

* Citi sees 25 percent upside in European stocks by 2014 end

By Alistair Smout

LONDON, Sept 17 (Reuters) - European shares edged lower on Tuesday, led down by weakness in carmakers after demand for autos fell last month, but they remained in touching distance of 5-year highs after a strong rally.

Eyes were on the U.S. Federal Reserve ahead of a policy meeting expected to confirm a slowing down of its unprecedented stimulus programme.

Carmakers dropped 1.3 percent, the top falling sector, after the Association of European Carmakers said European car sales fell 4.9 percent last month.

German car parts and tyre maker Continental AG (Xetra: 543900 - news) shed 3.9 percent, the top faller on the FTSEurofirst 300 , with traders citing news that major shareholder Schaeffler had placed shares in the group worth 950 million euros to cut debt.

The pan-European FTSEurofirst 300 fell 0.3 percent to 1,254.44, having posted a close of 1,258.42 in the previous session - its highest close since June 2008.

The index surpassed its May peak for the year, which had been made before Federal Reserve Chairman Ben Bernanke first indicated to the market that the bank's equity-friendly stimulus programme would likely be scaled back later this year.

The bank's committee on Tuesday begins a two day meeting which is set to signal the start of the "tapering" process, with asset purchases expected to be reduced by $10 billion a month.

The FTSEurofirst has rallied 5.2 percent since the start of September, and 12.9 percent since June's lows made after Bernanke's first comments on reining in the Fed's "quantitative easing" programme.

"There is the concern that (tapering) could be bigger than is expected - it's not unusual to see a bit of caution ahead of the Fed," said David Jones, chief market strategist at IG (LSE: IGG.L - news) , adding that the market could handle a fall of 2-3 percent back towards end-of-August levels, having run up so quickly.

"(However), we've already had the QE tapering shock back in May/June when it was first mooted... so markets aren't happy about QE being reined in, but I don't think it will cause a massive meltdown."

Citi upgraded its targets on European stocks, recommending that investors "keep buying dips" and raising its 2014 target on the DJ Stoxx Europe 600 to 370. Currently the index trades at 312.55

"There may be better near-term entry points, but we see healthy (circa) 25 percent returns to the end of 2014," analysts at Citi said in a trading note.