Nikkei drops 1 pct but scrambles back above support level

* Index falls to 4-mth intraday low but ends above 8,800

* China bank lending a drag on sentiment

* MSCI inclusion pushes up Hankyu Hanshin, Taiheiyo Cement

By Sophie Knight

TOKYO, May 16 (Reuters) - The Nikkei share average slid 1
percent on Wednesday, as data showing flat bank lending in China
chilled already tepid sentiment for risk assets although the
benchmark managed to end a whisker above a key support level.

The Nikkei has fallen 14 percent since hitting a one-year
peak of 10,255.15 on March 27 as a deepening sovereign debt
crisis in Europe and worries about slower growth have boosted
the 'safe-haven' yen.

Investor allocation in Japanese stocks fell to 19 percent
net underweight this month from 10 percent in April, a monthly
survey of asset managers by Bank of America Merrill Lynch
showed. It was 4 percent net underweight in March.

An expected outflow from passive funds after a shuffle of
the MSCI index also weighed on the market on Wednesday. One
trader said the outflow was estimated at around $460 million.

The index broke below 8,800 - a support level that has been
closely watched by market partipants - for the first time since
early February, although it later scrambled back up above it to
close at 8,801.17.

At one point it fell as low as 8,756, a four-month low.

"The Nikkei is smashing through supports because of supply
and demand. Investors have to keep selling to cover their losses
as share prices have fallen," said Masayuki Otani, chief market
analyst at Securities Japan.

Exporters to China were hurt by a report that new lending by
China's four biggest state-owned banks was flat in the first two
weeks of May.

The Nikkei China 50 underperformed the market,
dropping 1.4 percent and construction machinery maker Komatsu
Ltd sagged 2.5 percent.

But some said the Nikkei could be ripe for a rebound as it
was deep in "oversold" territory, with its 14-day relative
strength index at 24.8. Thirty or below is considered oversold.

Shun Maruyama, chief Japan equity strategist at BNP Paribas,
also noted said the short-selling ratio was at a critical level.

"The past three to four days, the short-selling ratio in the
Tokyo market went up to 27.9 percent... the highest level in the
past few months," Maruyama said.

"I guess short positioning has been accumulated ... in the
shorter term, I am expecting a technical rebound on
short-covering."

MSCI removed Hokuhoku Financial Group Inc,
Hiroshima Bank Ltd and Nippon Sheet Glass Co Ltd
from the MSCI All Country World Index after the close
on May 31, triggering losses of between 3.2 and 9.1 percent.

But those newly included in the index jumped, with Hankyu
Hanshin Holdings Inc climbing 5.6 percent and Taiheiyo
Cement Corp advancing 4.2 percent.

Mizuho Financial Group, the only one of Japan's
three major banks to forecast a net profit increase this year.
climbed 1.8 percent.

Mitsubishi UFJ Financial Group (MUFG) ended down
1.4 percent and Sumitomo Mitsui Financial Group eased
0.3 percent.

The broader Topix index dropped 1.2 percent to
738.88, with volume moderate at 1.98 billion shares traded.

(Editing by Edwina Gibbs)