Nikkei drops on Italy election deadlock; selling eases as yen's gains pause

* Euro-sensitive stocks bear brunt of selling

* 25-day MA of 11,144.65 short-term support - analyst

* Major local, overseas events this week may lead to volatility

TOKYO, Feb 26 (Reuters) - Japan's Nikkei share average dropped on Tuesday, as the yen rose on uncertainty following the Italian elections, but losses were contained by expectations the government will this week nominate an aggressive monetary easing advocate as the new central bank governor. The Nikkei dropped 1.4 percent to 11,502.30 by the midday break after falling as much as 2.5 percent in early trade. The index has retreated from 11,662.52 marked on Monday, its highest level since late September 2008. Traders said that selling seems to have run its course for Tuesday as the yen's rise paused. The euro fell to as low as 118.74 yen as a strong showing in Italian elections by groups opposed to the country's economic reforms triggered worry that Europe's debt problems could once again destabilize the global economy. It last traded at 120.71 yen. The dollar, which tumbled to as low as 90.85 yen, its lowest in nearly a month, traded at 92.56 yen by the midday break. "The dollar's breaching the 91 yen level startled the market and triggered a big sell-off. But the market overly reacted to the rising yen, so investors are buying back," said Hiroyuki Fukunaga, chief executive of Investrust. Italy's centre-left coalition holds a slim lead over former Prime Minister Silvio Berlusconi's centre-right bloc in the election for the lower house of parliament, three TV projections indicated. But any government must also command a majority in the Senate, a race that is decided by region. Sony Corp, Ricoh Co and Nikon Corp , which have relatively big exposure to the euro zone economy, underperformed and dropped between 2.3 percent to 2.4 percent. Toshihiko Matsuno, a senior strategist at SMBC Friend Securities, said investors are worried about a hung parliament in Italy, and there are fears that the country may have to return to the polls in a short-period of time. Matsuno said the Nikkei's support line is seen at its 25-day moving average of 11,144.65 for this week. percent to 974.42.

MAJOR EVENTS THIS WEEK In Japan, investors cheered news on Monday that the government was likely to nominate Asian Development Bank President Haruhiko Kuroda, an advocate of aggressive monetary easing, as its next central bank governor. Analysts said that while the Japanese market is unlikely to be immune from euro-zone problems in the short run, expectations that Prime Minister Shinzo will continue to pursue bold policies to reignite the economy is supporting long-term investors' appetite for Japanese stocks. "A negative impact (from Europe's problems) to the Japanese market is unavoidable for now, but hopes for Abenomics have not changed," said Takuya Takahashi, a strategist at Daiwa Securities. Investors also await testimony later in the day from Federal Reserve Chairman Ben Bernanke for further clues of when the Fed intends to slow down or stop its bond-buying programme. "The Japanese market may see some volatility on sensitive overseas news and headlines regarding the nomination of a new Bank Of Japan governor this week," Investrust's Fukunaga said. Sources said the government is likely to nominate Kuroda and two deputies this week for parliamentary approval, and it is also lining up Kikuo Iwata, an academic who advocates unorthodox monetary easing steps, and BOJ Executive Director Hiroshi Nakaso, who now oversees the central bank's international operations, as deputy governors.