* Europe stock weakness caps global recovery on AIG bailout
* Interbank rates remain high
* Commodity prices rise, yen under pressure
By Sitaraman Shankar
LONDON, Sept 17 (Reuters) - Weakness in European stocks on
Wednesday capped a global equities recovery sparked by the U.S.
government bailout of cash-strapped insurer AIG and interbank
lending rates remained stubbornly high.
Oil jumped $3, government bond prices fell and the
low-yielding yen came under pressure after the $85 billion
rescue package for American International Group <AIG.N> eased
some of the fears gripping markets.
Better than expected results from Goldman Sachs <GS.N> and
Morgan Stanley <MS.N> also helped, though the Federal Reserve
kept rates on hold at its Tuesday meeting against some
expectations of a cut.
Asian and U.S stocks gained sharply but European shares
rapidly lost steam after an early rally, trading only 0.3
percent higher after 6 percent losses over the first two days of
the week as overnight interbank dollar rates were indicated as
high as 8 percent.
Shares in British bank HBOS <HBOS.L>, which has been the
focus of funding concerns, plummeted more than 40 percent, but
pared losses on a BBC report of a possible merger with Lloyds
TSB <LLOY.L>. The two banks declined to comment.
"We've just bought some time, and the underlying problems
still exist," said Justin Urquhart Stewart, investment director
at Seven Investment Management.
"This is going to be a very tentative market."
The past week has changed the face of the U.S. banking
sector. Lehman Brothers <LEH.P> filed for bankruptcy protection
and Merrill Lynch <MER.N> agreed on Monday to be bought by Bank
of America <BAC.N> for $50 billion.
"People are scared of further financial institution
difficulty. Funding remains difficult and flows of
risk-sensitive capital have slowed considerably," said Patrick
Bennett, Asia foreign exchange and interest rates strategist
with Societe Generale in Hong Kong.
TREASURIES FALL
However, U.S. Treasuries lost ground and the low-yielding
yen fell against the euro, reflecting some easing in risk
aversion.
Yields on the U.S. 10-year Treasury note <US10YT=RR> climbed
to 3.577 percent from 3.44 percent, and the yen, which is used
to fund trades in riskier but traditionally higher yielding
assets like equities, fell 1 percent against the euro.
Emerging sovereign debt spreads <11EMJ> narrowed by 16 basis
points to 400 basis points over U.S. Treasuries, after hitting
their widest levels in nearly two years on Tuesday. Benchmark
emerging equities <.MSCIEF> rose 0.38 percent, after hitting
October 2006 lows on Tuesday.
Commodity prices rallied, led by oil. November U.S. light
crude futures <CLc1> rose $2.7 to $93.89 a barrel after hitting
a seven-month low on Tuesday, supported partly by supply
disruptions after Hurricane Ike crashed into the Gulf of Mexico.
(Additional reporting by Kevin Plumberg in Hong Kong and
Carolyn Cohn in London; Editing by Ruth Pitchford)
