JGB 10-yr yield hits 3-mth low on curve steepening unwind

* Curve steepening positions unwound

* Investors move to buy longer maturities from shorter notes

* Ten-, 20- and 30-yr yields all hit 3-mth lows

* Weaker-than-expected 40-yr sale has little impact

By Satomi Noguchi

TOKYO, July 7 (Reuters) - Longer-dated Japanese government bonds advanced on Tuesday with the benchmark 10-year yield falling to a more than three-month low, as market players who had earlier bet on a steepening curve closed positions and bought longer maturities.

Bond dealers said investors including banks, pension funds and life insurers moved to purchase longer-dated paper after shorter sector yields fell extremely low last week without a dramatic shift in the view that the Bank of Japan will keep interest rates low in the coming months.

Demand for JGBs at a 40-year auction was weaker than expected, but had little impact on the strength of demand for super-long bonds. The 20-year yield slid further to a three-month low after the results of the sale were announced on persistent demand from investors moving funds away from medium-term sectors.

"Those who had curve steepening bets with a view that supply worries would lift yields are now being forced to give up their positions, making the drop in longer sector yields very quick," said a senior trader at a European bank.

"Also given the yields on the shorter end are so low --for example, the two-year yield falling as low as 0.25 percent-- investors with ample cash have no choice but to buy longer maturities," the trader said.

The JGB market rally accelerated last week as a smooth 10-year sale eased supply worries, and after a weaker-than-expected recovery in the Bank of Japan's tankan survey on corporate sentiment along with bleak U.S. jobs data reinforced the view that the global economy is still struggling to pull out of recession.

"We're still seeing bond purchases --which had halted for the past few months as stocks rose and concerns grew about increasing supply-- easing into the market," said Akito Fukunaga, a fixed-income strategist for Credit Suisse.

"The market looks set to keep its firmness not just in the short term, but also in the longer term from around one to three months. And the key to the market will be whether the fall in stocks accelerates or not," Fukunaga said.

The benchmark 10-year yield rose half a basis point to 1.305 percent JP10YTN=JBTC after earlier falling as low as 1.295 percent, its lowest since late March.

The Ministry of Finance's sale of 40-year JGBs in a reopening of the May issue drew bids of 2.85 times the amount accepted, down from 3.85 at the previous tender in May and the lowest since November last year.

The issuance size was raised by 100 billion yen from the May issue, the third auction to be increased to fund a government stimulus package.

But analysts said strong gains in super-long sectors in morning trade had more to do with the weak auction results than the issuance increase. The rise in the market lifted prices of 40-year bonds before the sale and reduced demand for the issue.

The 20-year yield fell 2 basis points to 1.960 percent JP20YTN=JBTC, the lowest since April 2. The 30-year yield was flat at 2.150 percent, but stayed near a three-month low of 2.125 percent JP30YTN=JBTC hit earlier in the day.

September futures slipped 0.11 point to 138.47 on weakness in the mid- to shorter ends after earlier rising as high as 138.62, the highest since March 27.

The five-year yield rose 1.5 basis points to 0.680 percent JP5YTN=JBTC, recovering from 0.660 percent touched on Friday, its lowest since January.

The two-year yield rose half a basis point to 0.260 percent JP2YTN=JBTC, off last week's low of 0.250 percent -- the lowest since January 2006. (Editing by Joseph Radford)