German bonds recover; still set for steep monthly selloff

* Euro zone yields fall, follow U.S. Treasuries lower

* German 10-year yield has shot up 25 bps in February

* ECB intervention likely if yields rise further -analysts

* Euro zone periphery govt bond yields http://tmsnrt.rs/2ii2Bqr (Adds detail, updates prices)

By Tommy Wilkes

LONDON, Feb 26 (Reuters) - Benchmark German government bond yields fell for the first time in three sessions on Friday, but they were still headed for their biggest monthly jump in three years after rising inflation expectations triggered a selloff of safe-haven debt.

Friday's moves in euro zone yields were more limited than in recent volatile days, and yields on U.S. Treasuries, which led the selloff, dipped after rising to their highest in more than a year on Thursday.

The rise in bond yields, spurred on by U.S. fiscal stimulus hopes and a post-pandemic economic rebound that could fuel inflation, has spilled over into the euro area.

Policymakers moved to dispel concerns that they might tighten policy soon. European Central Bank executive board member Isabel Schnabel cautioned on Friday against a withdrawal of policy support too early in the economic recovery.

Despite Friday's fall, Germany's 10-year yields, the region's benchmark, are set for their biggest monthly gain since January 2018 with a 25-basis-point rise.

On Friday, they rose as high as -0.203%, a level not matched since the COVID-19 market crash last March. They were down over 3 basis points at -0.26% at 1528 GMT, the fall extended after Schnabel's comments.

"Our central expectation would be for the selloff in rates to pause for a time," said Mark Dowding, CIO at Bluebay Asset Management.

French and Austrian 10-year yields, which had turned positive for the first time since June , both returned to negative territory on Friday.

Investors and analysts said the selloff, which has surprised many, resembled the "taper tantrum" of 2013, when hints that the U.S. Federal Reserve might slow its money printing triggered an exodus from bonds.

Money markets were also not immune to the selloff. Expectations that the Bank of England would raise rates as early as August 2022 began to grow while eurodollar futures contracts maturing in September 2023 posted record volumes overnight.

"The bond market just entered crisis mode," said analysts at Societe Generale, noting a 25-basis-point intraday move in U.S. Treasury yields.

"If markets fail to stabilise, central banks may have to step in, as a fast move in rates could disrupt financial conditions. With a clear medium-term trend towards higher rates, it makes little sense to attempt to catch a falling knife," they said.

PACE OF EURO ZONE RECOVERY UNCERTAIN

With U.S. inflation-adjusted rates still negative and the growth outlook improving, the rise in bond yields in the United States had further to run, analysts said.

Rising yields currently seem less justified in the euro zone, which has a weaker economic and inflation outlook and arguably needs to keep borrowing costs lower for longer. The region is also behind in its COVID-19 vaccination drive.

"The ECB, unlike the Fed, has been actively trying to manage interest rates, or at least to slow the pace of rise," ING strategists said in a note. "We suspect intervention is imminent, or perhaps we are letting our hopes speak."

Ten-year Southern European government bond yields, which have also risen rapidly as assets considered riskier than core euro zone markets fell out of favour, were down 2-5 basis points in late trade.

(Additional reporting by Saikat Chatterjee and Yoruk Bahceli; Editing by Jane Merriman and John Stonestreet)

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