European shares retreat as easyJet dives; banks outperform

* Pan-European STOXX 600 falls 0.4 pct

* EasyJet (Other OTC: EJTTF - news) slumps after guidance

* Citi says time to buy European banks

* Osram soars on takeover talk (ADVISORY- Follow European and UK stock markets in real time on the Reuters Live Markets blog on Eikon, see cpurl://apps.cp./cms/?pageId=livemarkets) Adds closing prices, details)

By Kit Rees

LONDON, Oct (HKSE: 3366-OL.HK - news) 6 (Reuters) - European shares fell on Thursday after easyJet dropped to its lowest in more than three years, although the beaten-down banking sector rose for the third straight session.

The STOXX 600 index fell 0.4 percent after opening in positive territory, extending the previous session's losses, when both shares and bonds were hit by worries that the European Central Bank might wind down the pace of bond-buying before the end of its asset-purchase programme.

Budget airline easyJet fell almost 7 percent after saying that its annual profit would fall by more than 25 percent this year, its first drop since 2009. It cited disruptions, security concerns and an adverse exchange rate.

Shares (Berlin: DI6.BE - news) in rivals IAG and Ryanair fell 3.9 and 1.5 percent.

"Despite easyJet's strong margins ... and attractive strategic positioning, we see negative EPS momentum as the dominant driver for the shares in the short term," analysts at Liberum, who have a "sell" recommendation on the stock, said in a note.

"Given the seasonality of easyJet and the airline industry, we see it as unlikely there will be a positive catalyst much before summer next year."

European banking stocks, however, extended their gains from the previous session, helped by an upbeat not from Citi, which upgraded the sector to "overweight" citing signs of improvement in the credit cycle and loan growth as well as cheap relative valuations.

Unicredit (EUREX: DE000A163206.EX - news) rose 2.3 percent after reports that France's Amundi (Berlin: 350155.BE - news) had made a higher-than-expected 4 billion-euro offer for its asset manager Pioneer.

Deutsche Bank (LSE: 0H7D.L - news) rose as much as 2.7 percent after German officials said that the government was pursuing discreet talks with U.S. authorities to help the lender secure a swift settlement over the sale of toxic mortgage bonds, according to sources in Berlin. The stock later pared gains to end down 0.3 percent but it remains 25 percent above all time lows hit last week.

Both Deutsche Bank and Unicredit have roughly halved in value this year.

"You can maybe see a little bit of repositioning, people buying into some of these banks that are offering a fair bit of a discount in anticipation of ... when the ECB starts turning the tap off," Dafydd Davies, partner at Charles Hanover Investments, said.

Osram jumped 10.4 percent to a record high on reports of a takeover offer from Chinese chipmaker Sanan Optoelectronics Co Ltd.

German chipmaker Dialog Semiconductor (LSE: 0OLN.L - news) also rallied 7.3 percent after reporting a solid set of preliminary third-quarter results. (Additional reporting by Danilo Masoni in Milan, editing by Larry King)