(Adds European market forecast, broker downgrades)
By Rebecca Harrison
PARIS, July 24 (Reuters) - French carmakerPeugeot Citroen posted a slide in first-half profits on Thursday and cut key full-year forecasts due to the strong euro and slumping demand, particularly in France.
Europe's second-biggest carmaker said net profit fell 12 percent to 869 million euros ($991 million) in the first half, just lagging the average forecast of 895 million from 14 analysts polled by Reuters.
Peugeot also said it now aimed to "maintain or improve" its first-half operating margin in its core autos unit of 3.7 percent for the full year, compared with an initial target of 5.0-5.2 percent, barring a further rise in the euro.
Chairman Jean-Martin Folz also lowered his forecast for Europe's car market this year, saying it would drop by three to four percent, compared with a zero to two percent decline predicted in February.
Shares in Peugeot had fallen 5.7 percent to 38.04 euros by 0903 GMT, underperforming its European peers ahead of an expected sharp fall in DaimlerChrysler second quarter profits.
"The lowering of forecasts for Peugeot is being seen as a warning signal for the whole European auto sector," said Henrik Lier, an auto analyst at WestLB Panmure.
's operating margin -- a key measure of profitability -- in its carmaking unit fell to 3.7 percent from 5.2 percent, while the group margin, which it also hoped to maintain or boost for the whole year, fell to 4.6 percent from 5.6 percent.
"There had been an expectation that they would offset the currency impact and the volume effect in the French market with cost savings, but they have done no more than compensate for it," said Sal Oppenheim auto analyst Patrick Juchemich who cut the stock to "underperform" from "neutral".
J.P. Morgan also cut its recommendation to "underweight" from "neutral," saying the results demonstrated that the group could no longer offset tough external conditions with cost savings and hot products.
The firm said the rise in the euro took a 292 million euro bite out of operating profit at the autos division, while a sharp decline in French sales knocked off a further 58 million.
PSA said it expected the environment in the second half of the year to be "slightly less unfavourable" but that nevertheless it would cut production to match slacker demand, eliminating 57,000 vehicles in the third quarter and 16,000 in the fourth quarter by eliminating weekend and third shifts at some plants.
Some analysts said the lowered profit margin target should not come as a major surprise after the firm in May said its margin targets would be "difficult" to meet.
"I think they had downplayed expectations a bit at the end of May and I don't see the shortfall much worse than that so visibility isn't too much of a problem," said Morgan Stanley analyst Nicholas Hirth, who rates the stock "overweight".
PSA is not the only carmaker to suffer as shaky economies in western Europe stop motorists splashing out on new cars and as the strong euro erodes margins.
Few European carmakers expect profit growth this year. The world's second biggest carmakerMotor Corp rattled the market last week with a hefty second-quarter loss in Europe, and PSA's domestic rival is expected to post a fall in core earnings when it reports results later on Thursday.
PSA has not missed a profit target since Folz took the helm in 1998 and carved out a reputation as Europe's most reliable mass carmaker.
PSA, which earlier this month posted a 1.9 percent rise in unit sales, said turnover rose to 27.763 billion euros from 27.371 billion last year and the group maintained its target of selling 3.35 million new cars this year. (Additional reporting by Madeline Chambers and Ralf Benders in Frankfurt)