Euro at three-month high, bond yields key

LONDON (Reuters) - The euro hit a three-month high against the dollar on Thursday, drawing further support from a sustained surge in euro zone government bond yields that again kept global stock markets on the defensive.

Investors digested figures from the previous day that showed relatively strong euro zone economic growth in the first quarter, contrasting with disappointingly weak U.S. retail sales in April.

The euro rose above $1.14, bringing its gains against the U.S. currency in the last month to nearly 9 percent as the difference between benchmark U.S. and euro zone 10-year yields shrinks from the euro-lifetime high touched in March.

European stock markets were a sea of red on Thursday, with investors worried about volatility and the tightening of financial conditions resulting from the plunge in bond prices and spike in yields.

Asian stocks ex-Japan were broadly flat <.MIAPJ0000PUS> while Japan's Nikkei 225 index <.N225> fell 1 percent, weighed down by the yen's strength against the sagging dollar.

"The euro is continuing to rebound, supported by the ongoing adjustment higher in euro zone yields. (This)... is in part supported by strengthening growth in the euro zone and higher inflation expectations," said Lee Hardman, currency strategist at BTMU in London.

The euro was up more than 0.5 percent on the day at $1.1415 , as the U.S.-German 10-year yield spread narrowed to a three-month low of 152 basis points. In mid-March, the yield advantage in favor of the dollar was over 190 basis points.

This pulled the dollar index, a measure of its against a basket of six currencies, down to a four-month low of 93.175 <.DXY>.

With higher U.S. interest rates seeming ever more distant, investors bailed out of long dollar positions, taking the index's losses to around 7 percent from a 12-year peak of 100.390 set in March.

ANXIOUS

Wednesday's weak U.S. retail sales report prompted investors to push back the likely lift-off date for a rate hike by the Federal Reserve, giving gold a steer to five-week highs above $1,218 an ounce .

But this failed to reverse the bond selling, as German and U.S. bond yields still surged to their highest in over five months.

The startling rise in yields has made equities look more expensive in comparison to debt and kept global share markets subdued. Australian, Singaporean and Thai stocks declined, while Chinese and South Korean shares posted modest gains.

In early European trade, the FTSEuroFirst 300 index of leading European shares was down 0.6 percent <.FTEU3>, Germany's DAX down 0.5 percent <.GDAXI> and Britain's FTSE 100 was 0.7 percent <.FTSE>.

"The bond market moves are making investors quite anxious," said Oanda senior market analyst Craig Erlam.

In bonds, the yield on German 10-year paper rose as high as 0.778 percent, closing in on the 2015 high of 0.799 percent touched last week, before easing back toward 0.72 percent.

The 10-year Treasury yield eased back from Wednesday's five-month closing high of 2.28 percent, but analysts say the momentum in yields remains upwards.

While Fed officials keep insisting a rate hike could come from June onward, markets are not convinced the U.S. central bank will be able to move at all this year.

Bond moves are likely to be the main market driver on Thursday, but investors will also keep close tabs on talks between Greece and its creditors.

Finance Minister Yanis Varoufakis said on Thursday Greece's debt was not viable and repayments to the European Central Bank should be pushed back.

ECB president Mario Draghi will deliver a speech to the International MOnetary Fund in Washington later on Thursday.

In commodity markets, oil gave back a little of recent hefty gains after weak U.S. data raised prospects of lower global demand.

U.S. crude futures were off 37 cents at $60.14 a barrel, while Brent lost 25 cents to $66.56.

(Reporting by Jamie McGeever; Additional reporting by Sudip Kar-Gupta; editing by John Stonestreet; To read Reuters Global Investing Blog click on http://blogs.reuters.com/globalinvesting; for the MacroScope Blog click on http://blogs.reuters.com/macroscope; for Hedge Fund Blog Hub click on http://blogs.reuters.com/hedgehub)

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