Bank-to-bank euro funding costs rose again on Friday with the three-month rate hitting a 9-1/2 month high after central bank operations this week drained a chunk of liquidity from the market. Banks paid back 442 billion euros of one-year loans to the European Central Bank on Thursday but borrowed around 243 billion euros in six-day and three-month funds.

The amount of six-day and three-month funds taken up by banks helped assure markets there was still enough excess liquidity in the system, causing the overnight Eonia rate EONIA= to retreat to 0.48 percent at Thursday's fixing from 0.54 percent.

What is sure is that there will be excess short-term liquidity over the next three months. As far as this subject is concerned, probably some worries have faded, said Patrick Jacq,strategist at BNP Paribas in Paris.

Short-term funding operations now account for 43 percent of total liquidity, up from 18 percent at the start of the week, he said. However, without the support of the massive liquidity seen before the expiry of the first tranche of one-year funds, longer-dated interbank rates continued to climb.

The three-month euro London Interbank Offered Rate EUR3MFSR= rose to 0.72688 percent from 0.71750 percent,reaching highs last seen in September. The equivalent dollar and sterling rates were little changed at 0.53363 percent and 0.73156 percent respectively.

Credit Agricole analysts said the result of this week's liquidity operations showed banks took the cheap 12-month money last year not because they needed it especially, but because the banks were increasing assets.

STRESS TEST IN FOCUS Financial markets had been closely watching this week's liquidity injections because of worries that some European banks were too reliant on the central bank's emergency cash.

It was not as bad as some might have feared, but investors are still looking towards the bank stress test in order to get the reassurance that the European banking sector remains properly capitalised, said James Chappell, financial sector strategist at Olivetree Securities.

Europe's banking watchdogs have been holding stress tests to see how lenders would be affected by a sharp downturn in the economy or other shocks, aiming to boost confidence and bring a negative spiral in financial markets to a halt.

The fear is the stress test results this month could reveal many of Europe's biggest problems lie with smaller players such as German landesbanks and Spanish cajas. (Additional reporting by Saikat Chatterjee in HONG KONG; Editing by Susan Fenton)

BNP Paribas