European markets retained a cautious tone Tuesday, with investors keeping one eye firmly on the lingering conflict in Ukraine while trying to gauge whether the European Central Bank will announce further stimulus measures at its policy meeting later in the week.

In early trade, the Stoxx Europe 600 advanced 0.2%, broadly in line with the U.K.'s FTSE and France's CAC. Germany's DAX gained 0.5%.

In currency markets, the euro was broadly unchanged against the dollar, while Russia's ruble was also steady following Monday's selloff which saw it hit another all-time low against the dollar.

Ukrainian Defense Minister Valeriy Heletey said Monday that the army would stop trying to remove separatists from the east, moving instead to a defensive strategy against what he called a "full-scale invasion" of Russian regular troops.

His announcement of a change in tactics came as another round of talks between Kiev, Moscow and the separatists ended without apparent results beyond agreeing to meet again Friday.

"A diplomatic solution in Ukraine still seems out of reach," Citigroup credit strategist Joseph Faith wrote in a note, while UBS economist Paul Donovan said that investors now appeared to be pricing in an escalation of European Union actions, in the form of more sanctions.

Elsewhere, investors' attention has turned to the ECB and the possibility of it announcing further rate cuts to stimulate the region's sluggish recovery, or even opting to announce a broad-based asset purchase program knows as quantitative easing, to help bring inflation back up to target.

On Monday, data showed that activity in the euro zone's manufacturing sector slowed more sharply than first estimated in August, with Italy joining France in contraction, while German factories had their most sluggish month since September of last year.

"It's a close call," said Gary Jenkins, a credit strategist at LNG Capital.

"My view is still that for [ECB] President Mario Draghi it remains a last resort, but he is in danger of being backed into a corner and left with little alternative but to enact QE at some stage," he added.

He said that at this stage Mr. Draghi might also be fearful that even if QE is implemented, it might not work and Europe might remain in a low growth, high unemployment state.

In currency markets, the U.S. dollar jumped to a seven-month high against Japan's yen of 104.86 on Tuesday, on expectations that U.S. monetary stimulus is near an end, while in Japan hopes emerged that a cabinet reshuffle could lead to increased stakes in domestic stocks for the country's vast public pension fund.

The dollar has enjoyed support over the last few months, fueled by a raft of improving U.S. economic data, ranging from improving consumer confidence to better labor market conditions.

U.S. Federal Reserve officials signaled late last month that they were on track to end their QE program in October.

The U.K. pound meanwhile, came under pressure on a narrowing in the opinion polls ahead of the vote on Scottish independence scheduled for September 18.

"We suggest that this narrowing of the latest opinion polls is likely to see an increase in risk premia for sterling," currency strategists at Morgan Stanley wrote in a note.

Back in European equities, Italy's Luxottica Group SpA, the world's largest eyewear maker, was one of the biggest losers of the day, on news that Andrea Guerra had stepped down as chief executive after almost 10 years.

In commodities markets Brent crude oil lost 0.1% to trade at $102.64 a barrel, while gold declined 0.4% to $1,282.50.

Write to Josie Cox at josie.cox@wsj.com

Subscribe to WSJ: http://online.wsj.com?mod=djnwires

Citigroup (NYSE:C)
Historical Stock Chart
From Feb 2024 to Mar 2024 Click Here for more Citigroup Charts.
Citigroup (NYSE:C)
Historical Stock Chart
From Mar 2023 to Mar 2024 Click Here for more Citigroup Charts.