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Mondi drags on Britain's FTSE, Provident Financial sinks

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* FTSE 100 steadies near two-month highs

* Mondi, packaging peers drop as co cuts guidance

* Provident Financial sinks on Barclays "underweight"

* Dunelm Group impresses with sales growth

LONDON, Oct 11 (Reuters) - British shares dipped slightly on Wednesday after results from paper and packaging firm Mondi disappointed and sub-prime lender Provident Financial sank after a downgrade from Barclays.

The FTSE 100 drifted slightly lower, down 0.03 percent with materials firms the biggest drags on the index and mid-caps falling in line.

Investors expected the leading share index to stall into the year-end, with economic and political worries and a stronger pound preventing further gains.

"I would sit on the fence with it. The FTSE has moved a long way already and it looks quite toppy," said Rory McPherson, head of investment strategy at Psigma Investment Management. The index is up 5.5 percent year-to-date.

"The economic data has been almost universally poor. It's not a brilliant picture which you would associate with the FTSE doing well," he added.

Mondi was the main weak spot on the index, down 8.2percent after the paper and packaging manufacturer said full-year results would be "modestly below market expectations" due to cost pressures and negative currency moves.

Jefferies analysts were optimistic, however, saying "profit rose despite industry-wide increased costs for wood, energy, chemicals, paper for recycling and modest FX headwind (weaker U.S. dollar and Turkish lira)."

They expected similar cost pressures at packaging peers Smurfit Kappa and DS Smith.

Smurfit Kappa shares were down 2.6 percent while DS Smith fell 3.6 percent on the mid-cap index on the read-across.

Modest gains were led by medical devices company Smith & Nephew, up 3.8 percent after a report that activist investor Elliott built a stake in the company.

Among the mid-caps embattled sub-prime lender Provident Financial fell 4.2 percent after Barclays cut the stock to "underweight".

"We are cautious on the shares given our lack of confidence for a turnaround of the Home Credit business and the unquantifiable size of potential FCA redress," said Barclays' analysts in a note, referring to the UK regulator's powers to demand remediation payments from the company to consumers.

Provident's shares have plummeted 55 percent since its second profit warning in August. "It's a very volatile holding," said McPherson, adding that weak figures on consumer spending have not helped sentiment on the lender.

Shares in homeware retailer Dunelm jumped 5.4 percent after it reported first-quarter revenue rose nearly 25 percent as better weather drew more customers.

"This almost certainly implies a significant market share gain given subdued performances elsewhere," said Stifel analysts, pointing to weaker performance from unlisted department store John Lewis.

Psigma's McPherson said consumer-facing companies in the retail sector have been "massively penalised" by the poor economic data, resulting in strong share price bounces when they do better than expected.

(Reporting by Helen Reid; Editing by Jon Boyle)