Global stocks rallied on Thursday after strong Wall Street gains in the previous session, as the prospect of Federal Reserve interest rate cuts boosted faith in the U.S. economy and encouraged investors to take on risk again.

U.S. stocks on the Dow Jones posted their biggest percentage gain in 4-1/2 years on Wednesday after Fed Vice Chairman Donald Kohn signaled readiness to cut interest rates to stem the economic slowdown.

As risk appetite rose, investors sold the low-yielding yen, fuelling a broad climb in the dollar and emerging currencies while bond prices slid, pushing the 10-year U.S. Treasury yield further away from this week's near four-year low.

But many say the change is tentative, with all eyes on U.S. jobs and home sales data due later in the session to gauge how the slowdown in the world's biggest economy is shaping up. Weaker-than-expected numbers may raise the specter of recession again, wiping out the positive effect of the rate cut hopes.

There was a very strong recovery in equities and this has helped the dollar, said Niels Christensen, FX strategist at Nordea in Copenhagen.

The negative for the dollar is that the rally in equities was based on expectations of a rate cut, and housing data released later is bound to show a weak housing market so any recovery is likely to be short-lived.

For the time being though, European shares continued adding to Wednesday's 2.7 percent rally, with the FTSEurofirst 300 up 0.4 percent, led by the banking sector. Earlier, Tokyo's Nikkei average closed up 2.4 percent at a two-week high.

Emerging stocks bounced 2 percent to a week high.

Markets are jumping on relief there might be a rate cut at the moment, said Neale Goldston-Morris, head of equity strategy at Macquarie Equities in Sydney. But there is still a lot of pain to go through.

Until credit markets restore normality, it's hard to see equity markets making any consistent headway.

There is also the fear of inflation.

Oil prices jumped more than $4 a barrel after a blast and a fire at an oil terminal and pipeline prompted the shut down of almost a fifth of U.S. crude imports. U.S. crude surged to $94.70 a barrel, up from Wednesday's two-week low of $90.33.

Gold, which serves as a hedge against inflation and often tracks oil prices, traded above $800 an ounce but stayed off the two-week high hit on Monday.

Signs of stress are also visible in interbank lending rates, with one-month euro zone rates seen rising at least half a percentage point on Thursday as the period starts covering the seasonally-thin year-end holiday period.

Sterling and dollar borrowing costs are also expected to remain high in the coming month, interbank markets show.

BONDS, YEN

As the dash for safe-haven assets has ebbed somewhat, safe-haven Japanese and U.S. government bonds stumbled on the equity rally.

Treasuries failed to benefit from the rate cut hopes which dealers say have largely been priced in and the 10-year note was around 4.046 percent, edging away further from the near four-year low of 3.7945 percent.

Yield spreads between emerging market debt and U.S. Treasury notes also tightened a further 4 basis points after crunching in 15 bps overnight. Spreads are now more than 30 bps off the two-year highs hit earlier this week.

Rising stocks put the low-yielding yen under pressure. The dollar hit a one-week high against the Japanese currency overnight, before easing to trade around 110 yen.

The euro dipped below Wednesday's two-week high of 163.60 yen to around 163 yen. Against the dollar, it was down 0.6 percent at $1.4744, off overnight lows near $1.4710.

- additional reporting by Tomasz Janowski in Singapore and Simon Falush in London

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