* Irish 10-year yields fall to new record low below 3 pct
* Dublin holds first regular auction since bailout
* Auction marks normalisation of Ireland's market access
By Marius Zaharia
LONDON, March 13 Irish government bond yields hit new record lows on Thursday before Dublin's first regular debt auction since it was forced to take an international bailout more than three years ago.
The auction of around 1 billion euros of 10-year bonds will mark the full normalisation of Ireland's access to financial markets following its successful completion of the 85 billion euros EU/IMF bailout in December.
Traders said demand for Irish bonds has been strong this year, coming from all types of investors, including pension funds and insurers which tend to hold the paper for longer than banks and hedge funds.
This pointed to a solid auction result, which some in the market said could be a catalyst for another leg in the Irish debt rally which has taken its 10-year yields to an all-time low of just below 3 percent on Thursday from a peak of over 15 percent in 2011, according to Reuters data.
"Ireland will absolutely fly," one trader said. "We've seen solid demand all week and we think they will come aggressively to the market."
At the height of the crisis in 2011 and 2012 Ireland was shut out of markets as many investors feared its property market crash could push the indebted sovereign to the brink of default.
But Dublin pushed through structural reforms swiftly, while the European Central Bank eased worries about the euro zone's future with its conditional promise in 2012 to buy a country's bonds if it got into trouble.
With the economy recovering faster than its peripheral peers, investors have bought heavily into the Irish success story in the past year and ratings agency Moody's restored the country's investment grade status in January.
BUSINESS AS USUAL
Indicating just how strong demand for Irish bonds is, investors bid more than 14 billion euros at a 3.75 billion euro sale of 10-year bonds via a syndicate of banks at the start of the year.
It is easier to sell debt via syndications as banks have more time to rally up investors, but it is costlier than auctions as the sovereign pays fees to the banks managing the sales. Debt auctions rely on steady interest from a large pool of investors and are therefore considered the ultimate indicator of how safe a sovereign's market access is.
Ireland is already funded into 2015, but it is resuming debt auctions partly to prove its return to business as usual. Its funding target for this year stands at 6-10 billion euros.
"This return to domestic bond auctions is the final stage of Ireland regaining full access to capital markets," said Sandra Holdsworth, an investment manager at Kames Capital.
"We expect Thursday's auction to pass successfully... However one note of caution: at current levels of yield there is little margin to protect investors should the economic outlook worsen or fiscal discipline be lost."
Italy is the other euro zone country aiming to sell debt on Thursday. It plans to raise up to 7.75 billion euros of 2016, 2021, 2028 and 2037 bonds only a day after it sold 4.5 billion euros of new 10-year inflation-linked bonds.
Italian yields were 1 basis point lower at 3.41 percent, slightly above eight-year lows of 3.365 percent hit last week. The recent pick up in yields should ensure a smooth sale, traders said.
German 10-year Bund yields, the benchmark for euro zone borrowing costs, fell slightly to 1.59 percent.