Lingering bid speculation supported catering services firm Compass and the banking sector, including Northern Rock, but analysts, though largely bullish on the future direction of UK equities, questioned how many of the take-over rumours had substance.
"Today is a bit of a pause for breath after record-breaking Monday. Not every merger and acquisition activity is going to bear fruit," said Charles Stanley economist and strategist Edward Menashy. "But everything points to the fact the valuation of the market is more than reasonable."
"The rating of equity relative to bonds is on a massive discount. There is no competition; equities are far and away more attractive."
The FTSE 100 index closed 14.3 points, or 0.3 percent, higher at 5,358.6 points, adding to gains of nearly 160 points in the previous two sessions following frenzied bid activity. The index is about 11 percent higher since the start of the year but more than 150 points down from a four-year high of 5,515 hit on October 3.
US share markets rose after a report showed increasing US crude inventories and Time Warner and Electronic Arts posted better-than-expected profit.
But some analysts said concerns over the global economy still weighed on sentiment after the US Federal Reserve raised interest rates to 4 percent on Tuesday, the highest level in more than four years.
"We are caught between focusing on the macro outlook and the focus on relative asset classes and valuations," said BNP Paribas European economist Ken Wattret. "The mood is swinging from day to day. The worst-case scenario is you get second round effects of inflation and central banks everywhere have to squeeze them out."
Bid fever continued to push the market higher with rumours of a venture capitalist approach pushing shares in Compass 3.7 percent higher, and Northern Rock and HBOS rose more than 2 percent on talk of sector consolidation, traders said.
"There were bid stories this morning in Lloyds TSB, and the sector has caught a little bit of froth on the back of that," a dealer said.
Enterprise Inns rose 3.4 percent after traders reported bullish sentiment in the sector following positive analyst comments on Punch Taverns ahead of results. Traders said bid talk also boosted Enterprise shares.
Utility International Power closed 3.5 percent higher ahead of its third-quarter trading update on Thursday.
On the downside, shares in O2 fell 5.6 percent to head the list of FTSE fallers after Deutsche Telekom's finance chief, Karl-Gerhard Eick, said it was not in the interests of the company's shareholders to bid for the British firm. Deutsche Bank cut its investment rating on O2 to "hold" from "buy" after the news.
On Monday, Spanish telecoms firm Telefonica launched an agreed 17.7 billion-pound cash deal to buy O2, prompting market talk that cash-rich Deutsche Telekom might launch a counter bid.
Oil giant Royal Dutch Shell fell about 1 percent as it went ex-dividend but also suffered following a strike by Dutch workers and as concerns grew about costs at its huge oil and gas project at Sakhalin in Russia.
Pharmaceutical firm GlaxoSmithKline also traded ex-dividend, shedding 0.6 percent to take 2 points off the market, but traders also expressed concern over the stock ahead of a ruling in a US patent case.
Miners fell, with Xstrata down 2.7 percent after Swiss investment bank UBS cut its share price target on the stock, traders said.
"There are still fears that China is slowing down, but it is quite a knee-jerk reaction across the board, with Xstrata being the hardest hit," one dealer said.