* TSE Mothers futures trading volume hits record highs
* "Could be the canary in the coal mine" - fund manager
* Foreign and domestic players appear to take profits
* "Mothers is the world's riskiest market" - analyst (Adds graphic)
TOKYO, Aug 3 (Reuters) - Japan's stock market for start-up firms plunged to two-month lows this week as investors pulled money out of the risky and inflated market, raising concerns the broader stock market could also see some spillover.
The Tokyo Stock Exchange's Mothers start-up market saw its main index plummet this week, marking a loss of almost 10 percent from a one-year peak hit in June.
Trading in futures on the Mothers Index, which had been mostly dormant since their inception in July last year, suddenly spiked to a record high of about 4,700 lots on Tuesday, more than 10 times larger than the daily average of about 390.
The main stock market has so far been relatively untouched by the sell-off, with the benchmark Nikkei staying above the 20,000 level it scaled in June.
Yet, fund managers and analysts suspected the Mothers market is facing pressure from selling by hedge funds and foreign investors, who expect a sharp downturn. And further selling could spill over to smaller companies on the main board.
"This time, something is different. Because we Japanese day traders don't use the Mothers futures much, if not at all, I suspect it's foreign players," said Naoki Murakami, a professional day trader who focuses on start-up shares. "I'm going to sit on the sidelines until the storm passes."
The Mothers Index - an acronym for Market Of The High-growth and Emerging Stocks - comprises biotech and internet ventures and other small-caps.
On average about 150 billion yen ($1.4 billion) worth of shares change hands a day, or about 3 percent of the market's value, compared with less than 0.5 percent on the main board.
The index, which was closely correlated with the U.S. Nasdaq technology share market during the 2008 global financial crisis, had risen 28 percent in the year to June, better than the Nasdaq's 18 percent and the Nikkei's 5 percent gains during the same period.
Some traders said profit-taking on Mothers appeared to be driven in part by the sudden fall in high-flying U.S. tech shares last week.
"There was market talk that some small- and mid-cap fund managers sold stocks last Thursday to take profits. That triggered selling on the Mothers," said Tetsuo Inoue, CEO of Spring Capital.
"Mothers is the world's riskiest market, riskier than Chinese markets. It's like a fireworks festival - the rocket flies high and gives spectacular explosions and then pauses -then it repeats," he said.
Some traders are worried that further selling in Mothers could prompt a sell-off of small cap shares on the main board as well. Smaller firms such as EM Systems already appear to have succumbed to the selling pressure.
"Investors are nervous and eager to take profits in anything that has risen ahead of September, when the Fed begins the process of balance sheet normalization," said a veteran Japanese fund manager, referring to expectations the U.S. Federal Reserve could soon begin reducing the massive monetary stimulus in place since the financial crisis.
"In a way, this could be the canary in the coal mine. Investors have been too complacent for so long," he said , adding that he shorted some Mothers names on Tuesday, Wednesday and Thursday.
Retail traders have been spooked, online comments showed.
"The Mothers market is dying. Everybody run!" wrote one investor who goes by the name "Niagara man."
"Are we in a bottomless pit or something?" wrote another investor with the name "Millionaire investor."
($1 = 110.6600 yen)
(Editing by Jacqueline Wong)