EURO GOVT-Spanish yields fall, but Greek concerns still high
* Bunds pull back from highs as Greece gets fresh rescue cash
* Attempts to form a coalition keep investors on their toes
* Spanish yields fall; Government takes over Bankia
By Marius Zaharia and Kirsten Donovan
LONDON, May 10 (Reuters) - Spanish government bond yields fell and German debt prices pulled away from their record highs on Thursday when investors took comfort from Athens receiving part-payment of a rescue fund instalment, but the mood remained shaky.
Markets were closely watching efforts to form a coalition after Greeks elected mainly anti-austerity politicians over the weekend, raising the risk of a split from the euro zone.
Greek leftist leader Alexis Tsipras gave up his attempt to form a new government on Wednesday leaving Socialist leader Evangelos Venizelos to make a last-ditch attempt to form a coalition.
At some points in the session rumours were rife that he was close to convincing some parties to join a coalition. Venizelos said a first meeting with the Democratic Left party - which opposes the bailout - was a good omen. However, uncertainty remained high.
"If he manages to put together a coalition which will support the agreement with the EU, that will be a positive surprise and this is why we've seen the spreads tightening today," UBS strategist Gianluca Ziglio said.
"But even if we get a new coalition, we need to see ... if there will be a re-negotiation of the agreement, whether the austerity that's been asked from the country can be sold to the population. There are still lots of question marks and the situation is very fragile."
That made it too early to tell whether the sharp rising trend in Bunds to successive record highs could reverse or not, he said. Bund futures were last 20 ticks lower on the day at 142.60, having hit record highs of 143.03 on Wednesday.
Sentiment in Europe was also fragile. Greece received a 4.2 billion euros payment from the region's bailout fund on Thursday to enable it to meet short-term bond redemptions. But a further 1 billion euros was withheld..
Highlighting the gravity of the political deadlock in Athens, a Reuters poll of 64 economists showed only a slim majority thought Greece will still be in the euro zone by the end of next year.
In Spain, benchmark 10-year yields dipped below the psychologically important 6 percent again.
But demand has increased from investors to borrow Spanish bonds and sell them, in anticipation of being able to buy them back later at a lower price. The cost of borrowing Spanish debt has doubled in the past three months, data from research firm Data Explorers showed.
Italian 10-year yields were down 10 basis points on the day at 5.68 percent.
THE BANKS OR THE BUDGET
The Spanish government took over the country's fourth-largest lender Bankia on Wednesday, with more measures to strengthen ailing banks exposed to bad real estate loans expected on Friday.
Markets have been worried about the health of Spanish banks and moves to shore them up are cautiously seen as positive. But another concern involved public finances, which could deteriorate as Spain tries to fix its banking problems.
"If the Spanish banks that have been the big buyers have to provide against their real estate loans ... that could be money that would have made its way into bonds so even (shorter-dated paper), which has been solid, may not be able to count on that support," a trader said.
Rabobank and RBS credit analysts estimate Spanish banks could need as much as 100 billion euros of extra capital.
"This will result in the finances of the state being stretched to the point that this capital will be required to come from EU bailout funds," Rabobank strategists said.
As those worries lingered in the market, traders said room for German 10-year yields to rise from the record lows below 1.5 percent hit this week was limited.
"Because Bunds are so stretched, we're going to see people taking profits at times and then looking to buy the dips," a second trader said.
"The trend is still for lower yields while we're below 1.64 percent in Germany and all dips are being bought into."
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