LONDON (Dow Jones) - Israeli stocks traded lower on Wednesday after the centrist Kadima Party won the most seats in Israel's parliament, but captured fewer seats than markets had expected.

The vote lays the groundwork for Acting Prime Minister Ehud Olmert to form a ruling coalition government.

With almost 100% of the votes counted late Tuesday night, Kadima had won 28 seats in the 120-member Knesset, according to reports. Exit polls had forecast the party to win 29 to 32 seats, reports say.

Other parties that made a strong showing include the Labor Party, which won 20 of 120 parliamentary seats in the 17th Knesset, while Shas won 13, Israel Beitenu won 12 and Likud won 11.

The Tel Aviv benchmark index, the TA-25, declined over 1% on Wednesday as the centrist party won fewer seats than the 37 seats opinion polls had predicted heading into the vote.

Israeli brokerage Leader & Co, in a note entitled "Oy Vey!" said the result was bad for the stock market.

Their analysts pointed out that smaller special-interest parties, such as those representing religious groups and retirees, won more seats than expected, which will likely result in higher fiscal spending.

"The market will not like these election results. We would expect weaker shekel, weaker equity market, and higher interest rates a result," the brokerage said.

The dollar rose to 4.6972 Israeli shekels from 4.6744.

Results for Likud, represented by 38 seats in the outgoing house, may be particularly disappointing to that party's leaders.

Before the final results came in, Olmert said Tuesday he would seek to negotiate with Palestinians, and plans to draw final borders, which could include uprooting some Jewish settlements in the West Bank and allowing Palestinians to have a state, according to reports.

"We will move to set the final borders of the state of Israel, a Jewish state with a Jewish majority," said Olmert, as quoted by the Jerusalem Post. "We will try to achieve this in an agreement with the Palestinians."

In addressing Palestinian leader Mahmoud Abbas, Olmert said: "We are prepared to compromise, give up parts of our beloved land of Israel, remove, painfully, Jews who live there, to allow you the conditions to achieve your hopes and to live in a state in peace and quiet."

Kadima, which means "forward," was formed by Sharon, who has been comatose since a January stroke. Critics have said Kadima, without Sharon, would miss his charismatic leadership and lack strong organization.

The Palestine Liberation Organization is ready to negotiate immediately on implementing the a peace plan, that includes a Palestinian state alongside Israel, according to a Tuesday evening Associated Press report that cited a spokesman for Palestinian President Mahmoud Abbas.

However, Hamas militants are opposed to Israel's existence, and Olmert has refused to deal with Hamas' incoming Palestinian Cabinet, the AP added. (END) Dow Jones Newswires 03-29-06 0519ET Copyright (c) 2006 Dow Jones & Company, Inc.