EURO GOVT-Bunds rally after report renews stress test worries

* Bunds up after report renews banking sector worries

* Peripheral spreads edge wider

* Austrian 1.9 billion euro bond sale seen going well

By Kirsten Donovan

LONDON, Sept 7 (Reuters) - German government bonds rose on Tuesday as a newspaper report renewed jitters about banking sector health, recovering some ground after three sessions of steep losses last week.

The Wall Street Journal said its analysis showed bank stress tests published more than a month ago had understated some European lenders' holdings of potentially risky government debt.

"After the sharp sell-off in Bunds, consolidation has kicked in and the ground is quite fertile for this sort of story to give Bunds a little boost," said Commerzbank rate strategist David Schnautz.

"It's shedding more light on how effective the stress tests were and how much they revealed …- bringing those fears back on the table."

At 0749 GMT, September Bund futures FGBLc1 were up 63 ticks at 132.79.

Two-year bond yields DE2YT=TWEB fell 2 basis points to 0.612 percent, with 10-year yields DE10YT=TWEB down 5.8 bps at 2.277 percent. Thirty-year bonds DE30YT=TWEB outperformed with yields falling 6.2 basis points to 2.899 percent.

"We'll watch stocks and watch the periphery, but the periphery seems to be in the ascendancy in terms of driving the market," a bond trader said.

"It feels like (Bunds) found a bottom for the time being."

Bund futures found support at the 38 percent retracement of July and August's rally which came in around 131.94.

Nomura technical analyst Walter Burke said that means the market has an opportunity to correct higher, especially after holding its ground on Monday, and a move to resistance in the region of 133.02, the 23 percent retracement area, is possible.

BELGIAN JITTERS

Spreads between German debt and that of some of the euro zone's smaller economies edged wider after coming under pressure on Monday on the back of heightened political uncertainty, particularly in Belgium.

The Belgian/German 10-year yield spread was about 3 bps wider at 70 bps after widening to as much as 75 bps mid-session on Monday after talks to form a coalition government failed.

Part of the widening was also down to supply pressures, analysts said, with Portugal due in the market on Wednesday and Italy on Monday but in absolute terms, Portugal's 10-year yields were unchanged PT10YT=TWEB and Italy's were lower.

Italian and Portuguese spreads were around 7 basis points wider at 154 and 343 bps respectively.

Japan's Nikkei stock average .N225 fell 1 percent on Tuesday, and European shares were lower .FTEU3, led by the banking sector.

In supply, Austria will auction 1.9 billion euros of 2019 and 2026 government bonds.

Societe Generale said that the bonds have not cheapened much ahead of the auction but given the small issuance size, the sales should go well.

The 10-year Austrian yield spread was last at 44 basis points.

Supply this week totals around 11 billion euros with Germany and Portugal also coming to market, but redemption and coupon payments of around 19 billion euros should support the sales [EURODEBT/O].

"Going into this week's substantial supply, it remains to be seen just what appetite for bonds investors have, once they no longer believe in economic or credit meltdown scenarios," Credit Agricole strategists said.