RTRS: EURO GOVT-Bailout fears push Spanish yields to euro-era highs
* Risk of Spanish bailout grows; bond prices in free fall
* Greek funding worries add to peripheral pressure
* German yields mark new lows on safe-haven flows
By Marius Zaharia and Kirsten Donovan
LONDON, July 23 (Reuters) - Spanish bond yields jumped to euro-era highs on Monday on fears the government might lose access to markets and need a full bailout, which would dry up the euro zone's resources to fight the debt crisis.
As investors sought out the safest available instruments, five- and 10-year German bond yields hit new record lows and U.S. T-note yields hit their lowest since the 1800s.
The Spanish region of Murcia moved closer to following Valencia in seeking financial aid from the government, which set up an 18 billion euro fund earlier this year to help the regions refinance their debt. Media reported half a dozen other regions were ready to do likewise.
"This only shows that rescue funds don't prevent bailouts. They rather accelerate the process," said Elwin de Groot, market economist at Rabobank. "The question is will ... the Spanish government be able to get through this?"
Ten-year Spanish yields rose as high as 7.596 percent - almost 30 basis points higher on the day. Two-year yields saw the biggest intra-day rise in the euro era, climbing more than one full point to 6.785 percent.
Short-dated yields have risen more than longer-dated ones, flattening the curve, because of a perceived rise in credit risk, while a spread of around 110 cents between prices at which investors were willing to buy and sell 10-year paper reflects the lack of liquidity in the markets.
The latest developments overshadowed the euro zone finance ministers' approval of a bailout for Spanish banks on Friday, which along with fresh austerity measures and looser fiscal targets was aimed at avoiding a full rescue.
A Spanish state bailout would use up the resources of the euro zone's future ESM permanent rescue fund and there would be no money left for Italy, which is seen by many as the next domino in the bloc's debt crisis.
That pushed 10-year Italian bond yields 11 basis points higher to 6.32 percent, rising above Ireland's for the first time since January 2009.
"This tells us that fundamentals are not the most important thing driving the market right now," de Groot said. "The crisis has become systemic. The market thinks that if Spain goes then Italy may go next."
Worry over Greece resurfaced with international lenders scheduled to gather in Athens to discuss the terms of further rescue payments, after its prime minister said the country was mired in a "Great Depression".
Markets players were again talking about a possible Greek euro exit after German news magazine "Der Spiegel" reported on Sunday that the IMF may not take part in any additional financing for Greece. Other German newspapers said Berlin would be unlikely to sign off on any fresh aid.
Ten-year German yields fell to a record low of 1.126 percent, before rebounding to last trade at 1.178 percent. Two-year yields traded at minus 0.06 percent.
"It still feels as if (German and U.S. yields) can fall further given all that's going on," one trader said.
SPAIN'S FUNDING QUEST
Spain must make coupon and redemption payments to bondholders of some 20 billion euros next Monday, and nearly 25 billion euros in October, according to Reuters data.
Looking further out, 60 billion euros worth of paper is due for repayment next year, with a similar amount due in 2014.
RBC Capital Markets rate strategist Norbert Aul said Spanish auctions would become very difficult at current yields and that as soon as primary market access was at stake the likelihood the country would have to ask for support in some form would increase significantly.
"The first focus should be on any measures by the (euro zone rescue funds) that offer primary market support, as it is not feasible to take a sovereign of the likes of Spain completely off the primary market, as was the case for Ireland, Portugal and Greece."
Spain will rely mainly on its domestic banks to buy its debt, and their ability to support the sovereign will be on display at an auction of up to 3 billion euros worth of three- and six-month T-bills on Tuesday.
"In the near term you could say there is sufficient liquidity to cover upcoming auctions. Tomorrow's, for example, should not be derailed," Rabobank's de Groot said. "But as time goes on ...at some point there could be more serious issues in terms of the access the Spanish government has to the markets."
