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MONEY MARKETS-Eurodollar futures up on Citi/BofA report

* WSJ report suggests Citigroup, Bank of America need capital

* Equities sell off, risk aversion lifts eurodollar futures

* Dollar swap spreads at lows but expected to widen

* Malaysia torn between steady policy and token rate cut

By Vidya Ranganathan

SINGAPORE, April 28 (Reuters) - Eurodollar futures rose in Asia on Tuesday after a news report saying U.S. regulators had told Citigroup and Bank of America they may need to raise more capital spurred a broad flight to safer assets.

Dollar interbank rates however were fixed at new lows, their lowest since mid-2003, extending a downtrend driven by the rally in stocks and sporadic upbeat economic news over the past few weeks.

The Wall Street Journal report cited unidentified people familiar with the situation as saying that based on the results of recently concluded "stress tests", U.S. regulators had told Citigroup C.N and Bank of America BAC.N they may need to raise more capital.

The shortfall in capital amounts to billions of dollars at BofA, the paper said. [ID:nBNG118035]

The yen jumped, the Aussie dollar fell and shares, already under pressure from fears of a swine flu outbreak, slumped on the news.

December eurodollar futures EDZ9 rose to 98.785 from 98.775 at close on Monday and lows of 98.67 in that session, driving implied 3-month LIBOR down to 1.215 percent.

“It’s not a particularly positive story so there’s been a knee-jerk flight to quality response,” said Sally Auld, an interest rates strategist with JPMorgan Chase in Australia.

“So equity markets are down, dollar’s been sold and fixed income products, whether that’s the front end of the curve such as eurodollar futures or government bonds, have been well sought after.”

A eurodollar futures trader said the spike in futures also seemed to suggest markets were bracing for an extended period of cheap funding from the Federal Reserve and the U.S. government, although, given the already burgeoning deficits and expanded balance sheets, no one knew where the extra money would come from.

The U.S. government is releasing the outcome of its stress tests on its biggest banks next week, and these are meant to reveal which of them can cope without additional capital injections.

Dollar funding rates in Singapore SIUSDD=ABSG meanwhile crept down to 1.05 percent from near 1.07 percent on Monday, inching closer to the 1 percent mark.

The spread between LIBOR LIBOR= and overnight-indexed swaps (OIS), the latter a measure of market expectation of policy rates, narrowed to 87 basis points, levels last seen before the collapse of Lehman Brothers in September 2008.

The Wall Street Journal report would end the gradual tightening seen in those spreads, Auld said.

“To see those spreads push ourt a bit overnight will be consistent with the view that there are still some question marks about banks and their ability to fund themselves.

“This might prove to be a short term trough in all those spreads,” Auld said.

MALAYSIA RATES

Elsewhere, with just around 24 hours to go before Malaysia’s central bank announces a policy review, markets were split between expectations of interest rates being held steady at 2 percent or being cut by a token 25 basis points.

Central bank Governor Zeti Akhtar Aziz’s comment that rate cuts have been frontloaded seemed to have influenced onshore markets, furthering a view that rates will be kept on hold.

Still, KLIBOR futures <0#KLB:>, although not as liquid as other markets in Malaysia, showed June 3-month rates priced at 1.92 percent.

The interbank 3-month KLIBOR rate KLIBOR= was at 2.1 percent, while the 6-month quarterly interest rate swap was at 2 percent. That, a trader said, implied a 22 bps drop in KLIBOR within six months, which pointed to a likelihood of a token rate cut this time, or at least in the next few months.

A Reuters poll had analysts predicting a range of outcomes, from steady rates to as much as a half point easing. [ID:nKLR403968] (Editing by Jan Dahinten)

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