The FTSE 100 index, already under pressure from weak Chinese economic data, ended down 1.4%, with losses across all but one sector. The midcap index <.FTMC> fell 1.5% to a six-month low.
The yield on the 10-year gilt <GB10YT=RR> fell below that on the two-year <GB2YT=RR> shortly after 1000 GMT for the first time since 2008, a so-called yield curve inversion traditionally taken as a sign that markets expect a recession.
That battered the FTSE 100, taking its fall so far this month to 5.8%, which would be steepest monthly decline in four years if it remains at that level for the rest of August.
Stocks fell elsewhere, with the mood on Wall Street equally gloomy as the U.S. treasury yield curve also inverted.
'TEMPEST IN A TEA POT'
Some analysts played down recession fears, saying central banks could again ride to the rescue.
"Quite frankly this seems a little like a tempest in a tea pot," CMC Markets analyst Michael Hewson said.
Escalating China-U.S. trade tensions have been the main worry for markets in recent months, although until August the Brexit-induced weakness of the pound had helped the exporter-heavy FTSE 100 notch up back-to-back monthly gains.
"It's quite possible that we see a recession towards the second half of next year at the earliest. I wouldn't say it's the beginning of the end here," IG Markets analyst Chris Beauchamp said.
Upbeat corporate earnings helped some individual stocks.
Admiral rose 4.1% on its best day in over two years after the insurer posted a bigger-than-expected rise in earnings, driven by more customers in its UK business.
Balfour Beatty jumped 9.3%, its biggest one-day rise in more than 10-1/2 years, after the infrastructure company reported a leap in profits and upgraded its annual cash forecast.
Cybersecurity firm Avast climbed 8.7% after it said revenue growth would be at the upper end of its target.
However, blue-chip Prudential slipped 4.1% to its lowest since January after the insurer, which has a sizeable Asian business, said it was monitoring the protests in Hong Kong.
Sports Direct shed 10% after the retailer said its auditor Grant Thornton had quit. Later in the day, the company said it was "comfortable" with its latest accounts.
(Reporting by Muvija M and Shashwat Awasthi, additional reporting by Yadarisa Shabong in Bengaluru; Editing by Gareth Jones and Mark Potter)
By Muvija M and Shashwat Awasthi