*VIX ends at 52.65, it highest close since Jan. 20

*VIX option trade suggests bet against extreme upside move (Updates VIX closing level in paragraph 3, adds comments)

By Doris Frankel

CHICAGO, March 2 (Reuters) - The index known as Wall Street's fear gauge, the Chicago Board Options Exchange Volatility Index .VIX, spiked higher on Monday as U.S. stocks sank on deepening worries about the financial sector.

Risk perceptions rose and the widely popular VIX index posted its highest close since Jan. 20, which was the day of President Barack Obama's inauguration. The VIX jumped 13.59 percent on Monday to end at 52.65, a level testing the 100-day moving average of 53.81.

"The headlines from the financial world remain grim and the risks to the global economy are high," said Frederic Ruffy, options strategist at WhatsTrading.com. "In addition, investors are nervous ahead of a busy week of economic data, including key payroll data on Friday."

U.S. stocks dropped to 12-year lows after insurer American International Group (AIG.N: Quote, Profile, Research) reported a record $61.7 billion quarterly loss and received another government bailout.

The Standard & Poor's 500 index .SPX fell 4.66 percent to 700.82 after it briefly dropped below 700 during the session, for the first time since October 1996.

"People are a little more frightened about the news that has come out during the last two trading sessions, which included AIG and disappointing economic data," said Joe Kinahan, chief derivatives strategist at online brokerage thinkorswim Group in Chicago.