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* U.S. air strike in Iraq kills head of Iran's Quds Force
* Manufacturing sector contraction sparks slowdown fears
* Bank stocks fall as U.S. bond yields slide
* Energy stocks, gold miners track higher commodity prices
* Indexes off: Dow 0.80%, S&P 500 0.65%, Nasdaq 0.70% (Updates price action)
By Manas Mishra and Medha Singh
Jan 3 (Reuters) - Wall Street fell from a record high on Friday after a U.S. air strike in Iraq ratcheted up tensions in the Middle East, while a bigger-than-expected contraction in the U.S. manufacturing sector again fanned fears of slowing economic growth.
Demand for safe-haven assets soared as Iran vowed revenge for the killing of Qassem Soleimani, head of its elite Quds Force, in the air strike that was authorized by President Donald Trump.
Bank of America Corp and Citigroup Inc fell more than 1% as the news sent benchmark bond yields to their lowest level since Dec. 12. Nine of the 11 major S&P 500 sectors were in the red.
"The sharp escalation in tensions related to the Middle East is certainly driving the trading narrative for U.S. stocks," said Peter Kenny, founder of Kenny's Commentary LLC in New York.
"Does it mean continued escalation in tension (and) will it end up derailing the U.S. equity rally? I don't think so, but it's worth considering."
The three main stock indexes had closed at record highs on Thursday as fresh monetary stimulus by China added to investor optimism over trade.
But denting sentiment on Friday, data showed the U.S. manufacturing sector contracted in December by the most in more than a decade.
At 11:30 a.m. ET, the Dow Jones Industrial Average was down 232.15 points, or 0.80%, at 28,636.65, while the S&P 500 was down 21.13 points, or 0.65%, at 3,236.72. The Nasdaq Composite was down 63.86 points, or 0.70%, at 9,028.33.
The CBOE Volatility index, an options-based gauge of investor anxiety, hit its highest level since Dec. 10.
Safe-haven assets such as gold surged after the air strike, boosting shares of miners Newmont Goldcorp, Kirkland Lake and Barrick Gold between 0.4% and 1.1%.
Weapons makers Lockheed Martin Corp and Northrop Grumman Corp were the biggest boost to the S&P 500 index, gaining more than 3% after the attack.
Meanwhile, oil prices jumped about 4%, denting shares of American Airlines Group Inc and Southwest Airlines Co . The S&P 500 energy sector fell 0.6%.
In a bright spot, Tesla Inc shares hit a fresh record after beating estimates for vehicle deliveries in the fourth quarter.
Declining issues outnumbered advancers for a 1.50-to-1 ratio on the NYSE and a 2.18-to-1 ratio on the Nasdaq.
The S&P index recorded 12 new 52-week highs and one new low, while the Nasdaq recorded 29 new highs and nine new lows. (Reporting by Manas Mishra and Medha Singh in Bengaluru; Editing by Anil D'Silva)