UPDATE 2-Euro zone bond yields rise as fears over Iran/U.S. escalation ease

Eurozone government bonds had their worst day in more than a week on Wednesday as easing fears about an immediate and significant worsening in Iran-U.S. relations hurt safe-haven assets.

Iran launched missiles at two bases in Iraq early on Wednesday in retaliation for a U.S. drone strike last week that killed a top Iranian commander and stoked fears of a new Middle East war. But Iran is believed to have deliberately avoided causing U.S. military casualties during the strikes on the bases housing American troops, according to U.S. and European government sources familiar with intelligence assessments.

Most eurozone 10-year bond yields were up around 2 basis points in late trading on Wednesday, reversing earlier falls. "If there is... a new situation like this, the market takes notice, but once there is no new round of escalation, the market usually loses interest," said DZ Bank rates strategist Daniel Lenz.

The 10-year German government bond yield was last at -0.27%, but still far below a seven-month high of -0.157% hit on Jan 2. prior to the killing of the Iranian commander. Eurozone economic data have been improving in recent weeks, helping lift eurozone yields, many of which remain stuck in negative territory.

DZ Bank's Lenz said that should the Iran-U.S. conflict not escalate further, bond yields could revisit those highs. It was a busy day for primary issuance, with Germany raising 3.5 billion euros in a 10-year auction, while Ireland and Portugal sold 4 billion euros each of 15-year and 10-year bonds respectively in syndicated deals.

They followed Slovenia, which raised 1.5 billion euros via a 10-year syndicated deal on Tuesday. France is due to sell between 8 billion and 9.5 billion euros of long-term bonds at an auction on Thursday.

"Supply should dominate over geopolitics with Iran's missile attacks not triggering a larger escalation," Commerzbank analysts said, noting that investors were still "keen to put money to work". Eurozone data showed the economic mood in the region had improved in December, buoyed by optimism in Italy and Spain, while U.S. private sector payrolls exceeded expectations in December, according to the closely-watched ADP National Employment Report.