diff --git a/public/app/features/variables/pickers/OptionsPicker/reducer.test.ts b/public/app/features/variables/pickers/OptionsPicker/reducer.test.ts
index f6ccf40632e..9838ba4714e 100644
--- a/public/app/features/variables/pickers/OptionsPicker/reducer.test.ts
+++ b/public/app/features/variables/pickers/OptionsPicker/reducer.test.ts
@@ -461,7 +461,7 @@ describe('optionsPickerReducer', () => {
         });
     });
 
-    it('should toggle all values to false when $_all is selected', () => {
+    it('should toggle each individual value to true when $_all is selected and mark ALL as selected, not supporting empty values', () => {
       const { initialState } = getVariableTestContext({
         options: [
           { text: 'All', value: '$__all', selected: true },
@@ -479,14 +479,17 @@ describe('optionsPickerReducer', () => {
           ...initialState,
           options: [
             { text: 'All', value: '$__all', selected: false },
-            { text: 'A', value: 'A', selected: false },
-            { text: 'B', value: 'B', selected: false },
+            { text: 'A', value: 'A', selected: true },
+            { text: 'B', value: 'B', selected: true },
+          ],
+          selectedValues: [
+            { text: 'A', value: 'A', selected: true },
+            { text: 'B', value: 'B', selected: true },
           ],
-          selectedValues: [],
         });
     });
 
-    it('should toggle all values to false when a option is selected', () => {
+    it('should toggle to ALL value when one regular option is selected, as empty values are not accepted', () => {
       const { initialState } = getVariableTestContext({
         options: [
           { text: 'All', value: '$__all', selected: false },
@@ -503,11 +506,11 @@ describe('optionsPickerReducer', () => {
         .thenStateShouldEqual({
           ...initialState,
           options: [
-            { text: 'All', value: '$__all', selected: false },
+            { text: 'All', value: '$__all', selected: true },
             { text: 'A', value: 'A', selected: false },
             { text: 'B', value: 'B', selected: false },
           ],
-          selectedValues: [],
+          selectedValues: [{ text: 'All', value: '$__all', selected: true }],
         });
     });
   });
diff --git a/public/app/features/variables/pickers/OptionsPicker/reducer.ts b/public/app/features/variables/pickers/OptionsPicker/reducer.ts
index c5ca9bfb12e..059ad9d579c 100644
--- a/public/app/features/variables/pickers/OptionsPicker/reducer.ts
+++ b/public/app/features/variables/pickers/OptionsPicker/reducer.ts
@@ -106,6 +106,15 @@ const updateAllSelection = (state: OptionsPickerState): OptionsPickerState => {
   return state;
 };
 
+// Utility function to select all options except 'ALL_VARIABLE_VALUE'
+const selectAllOptions = (options: VariableOption[]) =>
+  options
+    .filter((option) => option.value !== ALL_VARIABLE_VALUE)
+    .map((option) => ({
+      ...option,
+      selected: true,
+    }));
+
 const optionsPickerSlice = createSlice({
   name: 'templating/optionsPicker',
   initialState: initialOptionPickerState,
@@ -178,21 +187,51 @@ const optionsPickerSlice = createSlice({
         highlightIndex: nextIndex,
       };
     },
+
+    /**
+     * Toggle the 'All' option or clear selections in the Options Picker dropdown.
+     * 1. If 'All' is configured but not selected, and some other options are selected, it deselects all other options and selects only 'All'.
+     * 2. If only 'All' is selected, it deselects 'All' and selects all other available options.
+     * 3. If some options are selected but 'All' is not configured in the variable,
+     *    it clears all selections and defaults to the current behavior for scenarios where 'All' is not configured.
+     * 4. If no options are selected, it selects all available options.
+     */
     toggleAllOptions: (state, action: PayloadAction): OptionsPickerState => {
-      if (state.selectedValues.length > 0) {
+      // Check if 'All' option is configured by the user and if it's selected in the dropdown
+      const isAllSelected = state.selectedValues.find((option) => option.value === ALL_VARIABLE_VALUE);
+      const allOptionConfigured = state.options.find((option) => option.value === ALL_VARIABLE_VALUE);
+
+      // If 'All' option is not selected from the dropdown, but some options are, clear all options and select 'All'
+      if (state.selectedValues.length > 0 && !!allOptionConfigured && !isAllSelected) {
+        state.selectedValues = [];
+
+        state.selectedValues.push({
+          text: allOptionConfigured.text ?? 'All',
+          value: allOptionConfigured.value,
+          selected: true,
+        });
+
+        return applyStateChanges(state, updateOptions);
+      }
+
+      // If 'All' option is the only one selected in the dropdown, unselect "All" and select each one of the other options.
+      if (isAllSelected && state.selectedValues.length === 1) {
+        state.selectedValues = selectAllOptions(state.options);
+        return applyStateChanges(state, updateOptions);
+      }
+
+      // If some options are selected, but 'All' is not configured by the user, clear the selection and let the
+      // current behavior when "All" does not exist and user clear the selected items.
+      if (state.selectedValues.length > 0 && !allOptionConfigured) {
         state.selectedValues = [];
         return applyStateChanges(state, updateOptions);
       }
 
-      state.selectedValues = state.options
-        .filter((option) => option.value !== ALL_VARIABLE_VALUE)
-        .map((option) => ({
-          ...option,
-          selected: true,
-        }));
-
+      // If no options are selected and 'All' is not selected, select all options
+      state.selectedValues = selectAllOptions(state.options);
       return applyStateChanges(state, updateOptions);
     },
+
     updateSearchQuery: (state, action: PayloadAction<string>): OptionsPickerState => {
       state.queryValue = action.payload;
       return state;
diff --git a/public/app/features/variables/pickers/shared/VariableOptions.tsx b/public/app/features/variables/pickers/shared/VariableOptions.tsx
index e5f7214c9d2..5b99e351535 100644
--- a/public/app/features/variables/pickers/shared/VariableOptions.tsx
+++ b/public/app/features/variables/pickers/shared/VariableOptions.tsx
@@ -78,6 +78,7 @@ class VariableOptions extends PureComponent<Props> {
             styles.variableOption,
             {
               [styles.highlighted]: index === highlightIndex,
+              [styles.variableAllOption]: isAllOption,
             },
             styles.noStyledButton
           )}
@@ -98,15 +99,15 @@ class VariableOptions extends PureComponent<Props> {
   }
 
   renderMultiToggle() {
-    const { multi, selectedValues, theme } = this.props;
+    const { multi, selectedValues, theme, values } = this.props;
     const styles = getStyles(theme);
+    const isAllOptionConfigured = values.some((option) => option.value === ALL_VARIABLE_VALUE);
 
     if (!multi) {
       return null;
     }
 
     const tooltipContent = () => <Trans i18nKey="variable.picker.option-tooltip">Clear selections</Trans>;
-
     return (
       <Tooltip content={tooltipContent} placement={'top'}>
         <button
@@ -114,7 +115,8 @@ class VariableOptions extends PureComponent<Props> {
             clearButtonStyles(theme),
             styles.variableOption,
             styles.variableOptionColumnHeader,
-            styles.noStyledButton
+            styles.noStyledButton,
+            { [styles.noPaddingBotton]: isAllOptionConfigured }
           )}
           role="checkbox"
           aria-checked={selectedValues.length > 1 ? 'mixed' : 'false'}
@@ -201,6 +203,14 @@ const getStyles = stylesFactory((theme: GrafanaTheme2) => {
       display: 'table',
       width: '100%',
     }),
+    variableAllOption: css({
+      borderBottom: `1px solid ${theme.colors.border.weak}`,
+      paddingBottom: theme.spacing(1),
+    }),
+
+    noPaddingBotton: css({
+      paddingBottom: 0,
+    }),
   };
 });