Investors ignored positive offshore leads yesterday as political uncertainty grew following the dramatic events in Canberra throughout the afternoon.
The benchmark S&P/ASX 200 closed down 0.2 per cent at 4959.4 points, reversing an early rise to 4998.9.
Value jumped to $7.1 billion due to activity related to the expiry of March index futures and options.
The index hit its low after Labor powerbroker Simon Crean asked Julia Gillard to call a vote on who should lead the party to the federal election in September.
"It's a bigger worry for the overseas investors because they've been baffled by Australian politics in the past few years," BBY institutional trader Anson Rosewall said.
"The real test would be if share-trading volume were to increase in this down trend as major funds start liquidating some of their exposure."
Major stocks, including Commonwealth Bank, BHP Billiton, National Australia Bank, Woolworths, Wesfarmers, Newcrest and Macquarie Group fell between 0.4 and 3.4 per cent.
Bucking the sell-off were Westpac, ANZ, Woodside Petroleum, AMP, Origin, Fortescue Metals and Crown, which posted gains of between 0.5 per cent and 2.9 per cent.
Surf and skate retailer Billabong fell 14 per cent before being put in a trading halt pending a statement from the company.
After the close of trading, Ms Gillard was unopposed as Labor leader in a party vote.
Australian shares saw a brief positive reaction to China's manufacturing PMI rising to 51.7 in March, from 50.4 in February, its biggest rise since October.
"The market wants to pull back and consolidate, and in the meantime it will probably dismiss any positive fundamental news," Mr Rosewall said.
European and US markets had reacted positively overnight on Wednesday to the European Central Bank's pledge to add liquidity if required in regard to recent jitters about Cyprus.
US Federal Reserve chairman Ben Bernanke said yesterday that the central bank was monitoring developments in Cyprus "very carefully". Mr Bernanke called the uncertainty there a "difficult situation", though one that he did not see as having "enormous" consequences.
The Australian dollar was little changed yesterday as news of strong Chinese manufacturing data was offset by the political leadership uncertainty. At 5pm AEDT, the dollar was off slightly in Asian trading, buying $US1.0373, down US0.05c.
The preliminary Chinese manufacturing figures for March came out at 51.7, against a final score of 50.4 last month. A reading above 50 indicates an expansion in manufacturing activity.
The data was significant because it was the first slice of economic data to come out of China since the numbers for last month, which painted a picture of sluggish activity in Asia's largest economy.
While the dollar received a boost from the China data, it retreated once the leadership speculation flared.
