German Bund yields post biggest weekly rise since June
* Bund yields hold near highest since March 2012
* Markets likely to stabilise before euro zone PMI
* Italian, Spanish debt risk premia around two-year lows
By Spriha Srivastava
LONDON, Aug 16 (Reuters) - German 10-year government bond yields posted their biggest weekly rise since June on Friday on increased expectations the euro zone economic recovery is gathering pace.
Bund yields stabilised after hitting their highest since March 2012 at 1.906 percent on Thursday when data suggesting the economic outlook for the euro zone and the United States was brightening prompted investors to dump safe-haven assets.
With euro zone PMI surveys and minutes of the Federal Reserve's July meeting due next week, investors were reluctant to make big bets on Friday, but some analysts said yields are likely to resume rising in the near-term.
"It's been a big sell-off because they were the safe-haven asset," said David Keeble, global head of fixed income strategy at Credit Agricole in New York. "You simply don't need that product anymore."
Ten-year German government bond yields fell 1 basis point to 1.87 percent. They have risen 19 basis points this week, the biggest weekly rise since mid-June, when the Fed laid out plans to reduce its monetary stimulus.
Equivalent U.S. T-note yields also held near two-year highs on bets that the Fed may make its move as soon as next month, a view reinforced by data showing U.S. jobless claims had dropped to a near six-year low on Thursday.
"Our view is that tapering is likely to occur in September, said Citi strategist Nishay Patel. "(It) is fully priced in and so ... the reaction, if it materialises is likely to be low."
German Bund futures were 9 ticks higher at 140.20, having fallen more than 80 ticks on Thursday.
Helaba Landesbank Hessen-Thuringen said the technical picture remained bleak: if the Bund falls below 139.90, it could test the October low of 139.45 and the September low of 138.41.
But others said the scope for more Bund selling was limited, especially as a rise in short-term yields risks triggering a counter-reaction from the European Central Bank, which said in July it wanted to inject a "downward bias" on interest rates.
"It's probably not going to be a big rally but I think we can stabilize here. The front-end has been under quite a bit of pressure... I think it can't just continue," Peter Schaffrik, head of European rates strategy at RBC Capital Markets said.
The premium investors demand to hold Spanish and Italian debt versus Bunds traded around their lowest in two years, as peripheral debt outperformed safe-haven alternatives.
The gap between Spanish and German 10-year yields narrowed as much as 9 bps on Friday to 248 bps - its lowest since July 2011. The Italian equivalent hit its lowest since August 2011 at 231 bps.
Brighter economic prospects favour debt issued by Italy and Spain, where growth is key to tackle big debt mountains.
The two countries, once at the forefront of the euro zone crisis, have been in a position to afford cancelling their mid-August debt auctions as they have already achieved 70-80 percent of this year's funding target.
"(A) clearly stronger economy should help peripherals going forward in terms of prospects and meeting budgetary targets," Alan McQuaid at Merrion Stockbrokers said.
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