* FTSEurofirst 300 index falls 0.4 percent
* Political impasse on U.S. debt talks hurt sentiment
* Financial shares feature among the top decliners
By Atul Prakash
LONDON, July 25 (Reuters) - European shares fell on Monday from their highest in more than a week as investors shied away from equities on the possibility of the first-ever U.S. debt default after talks between Democrats and Republicans collapsed.
Financial stocks were among the top losers, with the STOXX Europe 600 banking index falling 2 percent. Dexia fell 5 percent, while UniCredit dropped 3.3 percent.
The Euro STOXX 50 volatility index , one of Europe's main barometers of sentiment, rose 8 percent, indicating a decline in investors' desire to buy equities.
At 0829 GMT, the FTSEurofirst 300 index of top European shares was down 0.4 percent at 1,103.98 points, after hitting its highest in more than a week on Friday, as prospects of a budget breakthrough faded. U.S. lawmakers still plan to outline proposals on Monday, but both sides appear further apart than ever. .
"The markets were hopeful that by now something would have been agreed. I don't think a U.S. debt default has been completely ruled out by the markets," said Keith Bowman, equity analyst at Hargreaves Lansdown.
"At the end of the day, there is a huge amount of politics being played out. Investors are anxious to see some sort of agreement finalised. The results season has been a little bit better than a lot of people thought, but we would certainly like to see the U.S. debt situation put behind us."
Moody's, Standard & Poor's and Fitch have said they will downgrade the U.S. credit rating if a failure to raise the nation's $14.3 trillion debt ceiling leaves the Treasury without cash to service its debt obligations in August.
A debt default could push the world's largest economy back into recession. Wall Street stock futures fell 0.6 to 0.9 percent, U.S. treasury yields rose, while gold , generally seen as a safe-haven asset, hit a record high.
Some analysts said that losses were limited on hopes that there could be a last minute deal to allow President Barack Obama to raise the debt ceiling single-handedly, but the market wanted to see not only just the raising of the debt ceiling but a longer-term credible plan to tackle the deficit.
"Unfortunately we are in a world in which political risks are so large and fundamentals do not play that much of role," said Klaus Wiener, chief economist at Generali Investments, which manages 330 billion euros ($474 billion).
"I would not expect a default because the consequences will potentially be so grave that I can't imagine that they are willing to let that happen."
LONG-TERM OUTLOOK POSITIVE
Insurers also lost ground, with the sector index falling 1.4 percent. Ageas fell 4.7 percent, while Admiral Group dropped 1.6 percent.
Analysts, however, remained positive on the stock market's outlook in the longer term saying that investors will start to focus in the coming weeks on fundamentals as U.S. earnings season so far had been quite good and there were some positive developments on Greece's debt crisis.
Greece's private sector creditors have agreed to take a 21 percent loss on their bond holdings as part of a 37 billion euro contribution to Greece's rescue plan agreed on Thursday.
But Moody's downgraded Greece's sovereign debt ratings by three notches and said the country still faced serious medium term solvency challenges despite the fresh bailout package.
Analysts said equities were still quite attractive as valuations were moderate and companies, which were exposed to emerging markets, were doing extremely well.
According to Thomson Reuters Datastream, the STOXX Europe 600 carries a one-year forward price-to-earnings of about 10, against a 10-year average of 13.3.
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