JGB futures hit 2-mth high,curve steepens on BOJ report

* BOJ mulling further easing of monetary policy -Nikkei

* Yield curve steepens to match widest in a decade

* Banks buy ahead of next fiscal year starting April 1

By Rika Otsuka

TOKYO, March 5 (Reuters) - Japanese government bond futures hit a two-month high on Friday after the Nikkei newspaper reported the Bank of Japan has begun examining a further easing of its monetary policy, sparking broad bond buying.

Shorter-dated notes, more sensitive to the outlook for monetary policy, benefited the most, and the yield curve steepened further, with the five-year/20-year yield spread matching its widest since November 1999.

The BOJ may make a decision on further relaxing its already ultra-loose policy as early as this month, the Nikkei said on Friday. The board will debate whether to expand the fund-supply operation it put in place in December, under which the BOJ extends loans to commercial banks at a policy rate of 0.1 percent, it said. [ID:nTOE6230A7]

Even before the Nikkei report, some market participants had been expecting the BOJ to expand the duration of its new three-month funding operation.

"The short- and mid-term sectors gained as the media report backed up what the market thinks will happen," said Chotaro Morita, head of Japan fixed-income strategy research at Barclays Capital.

March JGB futures gained 0.18 point to 140.19 2JGBv1, after rising as high as 140.27, their highest since Dec. 22.

The two-year yield slipped half a basis point to 0.140 percent JP2YTN=JBTC, matching a four-year low first hit in late December.

The benchmark 10-year yield fell 2 basis points to 1.305 percent JP10YTN=JBTC, sliding towards a two-month low of 1.290 percent first reached in late February.

The five-year yield fell 2 basis points to 0.460 percent JP5YTN=JBTC, its lowest since late December.

Banks, the main players in the mid-term sector, bought five-year notes, traders said. Their funds then spilled over to 10-year bonds, helping push down 10-year yields.

Demand for government debt is strong as investors need to add JGBs to their portfolios as Japan's new financial year starts on April 1.

NO CHOICE

The BOJ board will meet on March 16-17, and some market players said the central bank was increasingly likely to make a policy move at the meeting.

"The central bank has no choice but to make a policy change soon," said a bond trader at a Japanese bank. "It cannot take the risk of disappointing financial markets after seeing share prices and bond prices all going up."

The Nikkei stock average .N225 was up 2.2 percent. [.T]

The Nikkei newspaper said that the central bank will either boost the amount it supplies in its funding operation from the current 10 trillion yen ($112.1 billion) or extend the duration of the loans to six months from the present three months.

"I haven't heard directly from the BOJ about what it plans to do," Finance Minister Naoto Kan said on Friday.

"The BOJ governor and deputy governor have appeared regularly in parliamentary committees, where I've repeatedly said the government will do more to end deflation and that I hope the BOJ also does more. The BOJ could be responding to that."

The 20-year yield edged down 0.5 basis point to 2.130 percent JP20YTN=JBTC.

The five-year/20-year yield spread stood around 167 basis points, matching its steepest in a decade, according to historical data on Reuters EcoWin. (Editing by Joseph Radford)