Pressure also continued in the currency market as rupee breached the 75 per dollar level for the first time.
In the stock market, Sensex lost over 1,900 points earlier in the day, to fall below the psychological level of 27,000 and Nifty50 on the National Stock Exchange breached the landmark 8,000-point level.
Both Sensex and Nifty hit their fresh three year low levels of 26,714.46 and 7,832.55 points, respectively, during the initial trade.
BSE Sensex pared major losses to settle at 28,288.23, lower by 581.28 points or 2.01 per cent from the previous close of 28,869.51. It had a gap-down opening at 27,773.36 and touched a high of 29,370.53.
Nifty50 ended 205.35 points or 2.42 per cent lower at 8,263.45.
The sell-off was witnessed across sectors during the day, with metal, energy and oil and gas stocks among the major losers.
On the Sensex, ITC, Bharti Airtel and Kotak Mahindra Bank led the few stocks which gained while Bajaj Finance, Maruti Suzuki and Axis Bank lost the most.
As the Indian rupee also continued to weaken against the dollar, it touched a new low of 75.31, before ending at 74.98 per greenback.
The rupee depreciated by 1 per cent to close at 74.98 on Thursday. Sell-off in the financial markets globally and the recent slump in oil prices weighed on the rupee.
Crude oil prices, on the other hand, recovered after the plunge on Wednesday. Brent crude is currently around $25.97 per barrel, 4.4 per cent higher than its previous close and the WTI is at $22.58 per barrel, over 10 per cent higher.