* German yields set for fifth consecutive monthly fall
* Hints reinforce expectations of imminent ECB easing
* ECB warns hunt for yield could be creating bubbles
* Italy pays record low yields at auction (Recasts with yields rising, fresh comments)
By Emelia Sithole-Matarise and John Geddie
LONDON, May 29 Euro zone bond yields mostly rose on Thursday as investors booked profits after this week's solid rally and looked to square positions for the end of the month.
The market pullback was however modest, with German bond yields still headed for a fifth consecutive monthly fall on expectations of imminent monetary policy easing from the European Central Bank.
"People are probably looking for a degree of positioning after a sharp rally yesterday and in anticipation of the ECB next week," said Philip Shaw, chief economist at Investec.
A throng of ECB policymakers have hinted that the bank is preparing the ground for a package of measures to be announced at next week's meeting, as it looks to stave off deflation and nurture the bloc's fledgling growth.
The supportive stance of global central banks has helped financial markets in Europe to weather lacklustre economic growth and the uncertainty of tensions over Ukraine.
German 10-year yields, the euro zone borrowing benchmark, rose 2 basis points to 1.30 percent, not far from their lowest level in 12 months around 1.28 percent.
German borrowing costs have dropped steadily in each month of this year, a trend not seen since the 2008 financial crisis.
"Even around these levels, Bunds are very well-supported," Commerzbank analyst Michael Leister said.
A holiday in much of Europe kept trading thin on Thursday and with investors squaring positions at the end of the month, the rally probably will not accelerate this week, strategists said. But market participants widely expect the ECB to cut its deposit rate below zero and begin a refinancing operation aimed at businesses when it meets on June 5, so they feel little pressure to sell, either.
The head of Italy's main employers' association also called on Thursday for the ECB to intervene to prevent a spiral of recession and deflation in the currency bloc.
The ECB has warned that investors' pursuit of higher profits could be creating new price bubbles in more vulnerable assets, but this has done little to curb investor appetite across the credit spectrum.
Italy paid record-low yields to sell five- and 10-year bonds on Thursday, although some traders noted that overall demand from investors was a little weak, which led to some underperformance in peripheral debt.
The rally in Italian 10-year yields this week has paused, with yields rising 3 bps to 2.97 percent after the auction. The country's borrowing costs remain just above the record low of 2.89 percent.
"It's not the kind of massive demand and upbeat auction you've seen so far this year. It's a very low level for yields at the moment and a lot of people are questioning whether these low yields can be sustained over time," said Gianluca Ziglio, head of fixed income research at Sunrise Brokers.
Spanish 10-year yields also traded just above the record lows of 2.80 percent they reached on Wednesday, 4 bps higher on the day at 2.87 percent.
A final reading of Spanish GDP confirmed output had risen 0.4 percent in the first quarter, its biggest increase since Spain's worst economic downturn in modern times began. The report failed to inspire much of a market reaction with trading volumes thin. [ID: nL6N0OF1BX]
Portuguese equivalents were also 4 bps higher at 3.62 percent. Greek bonds were the best performers in the euro zone periphery, with yields 5 bps lower at 6.27 percent. (Editing by Louise Ireland/Ruth Pitchford)