The pan-European STOXX 600 index dropped 0.1%, with energy and automobile stocks leading declines.

Energy stocks dropped 1.2% after gaining nearly 10% in the past three trading sessions on the back of gains in crude prices, which benefited from vaccine hopes and favourable political scenarios in the United States.

But markets retreated from recent gains as coronavirus cases in the bloc grew, and economic ructions from recent lockdowns continued to be felt. Still, European equities were set for their best month on record.

"The market has pulled a bit of risk off the table having two contrasting effects at play, one with bets of improved corporate earnings in contrast to expectations of central banks pulling back stimulus measures as economic situations begin to start getting better," said Andrea Cicione, head of strategy at TS Lombard.

A Reuters poll expects the STOXX 600 to climb to 430 points by the end of 2021, just a whisker below February's record highs, as economic activity eventually returns to normal following the coronavirus-induced downturn.

British mid-caps lost 1.1% and were the worst performers among European indices after the EU's chief executive said the European Commission cannot guarantee there will be a trade pact with Britain after its departure from the EU, and the coming days will be crucial.

UK's finance minister Rishi Sunak announced borrowings amounting to around 400 billion pounds this year to pay for the massive coronavirus hit to its economy, with the worlds sixth-biggest economy set to shrink by 11.3% in 2020: its worst performance in more than 300 years.

Germany and the United Kingdom unveiled plans to allow gatherings with limitations for Christmas, while France will start easing its lockdown this weekend after a sharp drop in new infections and hospitalizations.

French President Emmanuel Macron said on Tuesday a vaccine could start being administered as soon as the end of the year if approved by regulators.

German stocks ended flat while France's CAC 40 gained 0.2%.

In company news, Virgin Money UK dropped 4.8% after the lender reported a slump in annual profit as it took an impairment charge against an expected surge in bad loans.

German media group Bertelsmann gained 0.6% after it agreed to purchase publisher Simon & Schuster for $2.175 billion in cash from ViacomCBS, strengthening its presence in the United States.

($1 = 0.7483 pounds)

(Reporting by Shriya Ramakrishnan in Bengaluru; Editing by Subhranshu Sahu, Shounak Dasgupta and Jonathan Oatis)

By Shriya Ramakrishnan and Shashank Nayar