Investors showed appetite for Spain's debt Thursday, pushing borrowing costs up less than expected at its debut debt auction for 2011 and alleviating some concerns about the euro zone's more vulnerable debtor nations.

Spain sold 3 billion euros of its five-year bonds, at the top end of the Treasury's target range but less than the 3.4 billion euros sold at the previous auction on November 4, which had a higher target. Bids of over 6 billion euros were taken.

The Treasury paid nearly a full percentage point more to sell the debt than last time, but much less than a 150 basis point premium priced in at the start of the week had suggested.

Minutes later, Italy also sold 6 billion euros of debt, again at the top end of its target range.

The successful sales, and a largely well-received auction of debt by Portugal Wednesday, helped cool speculation that the crisis which forced Greece and Ireland to take bailouts last year will also engulf both Portugal and Spain.

For the near term I expect we will see some decrease in the pressure on euro zone periphery debt, said Luca Cazzulani, deputy head of fixed income at UniCredit.

But it's one thing to say we are seeing good demand at auctions ... countries are (still) paying substantially more than in previous months.

Spain paid a yield of 4.542 percent, a big jump up from 3.576 percent at the last auction.

The euro rose 0.2 percent on the day to $1.3170 after the Spanish auction, recovering from an early slide to $1.3089, with traders also citing speculation that fresh measures to tame the euro zone debt crisis may be in the works.

The market is seeking a turning point in the peripheral crisis, said Peter Chatwell, rates strategist at Credit Agricole in London.

STRONG INTEREST

The bid-to-cover ratio on the bond was 2.1, up on the 1.6 level at the November 4 auction, reflecting strong demand. Overseas investors took about 60 percent of the bonds on offer, a source told Reuters.

Last week China said it would continue to buy Spanish bonds and welcomed austerity measures and structural reforms aimed at slashing the country's deficit and stimulating a weak economy.

But traders said foreign demand was not enough to convince them that the worst of the crisis was over.

We have seen very reasonable demand, but problems are not resolved and we expect many months of volatility, said a Madrid-based trader.

The chief executive of Spanish bank Banesto said he did not expect Spain to end up needing to tap a European Union rescue fund like Ireland or Greece. Markets still expect that Portugal will eventually have to ask for financial assistance given a heavy schedule of debt repayments in the first half of 2011.

Spain is in a radically different situation to those countries that have already asked for it, or even from another country that some expect to ask for it in the coming weeks, said Banesto boss Jose Garcia Cantera.

Thursday the key risk premium on Spanish debt as measured by the yield on 10-year government bonds versus German bunds was around 235 basis points, some way off a 6-week high close to 300 bps hit last week. Spanish bank shares jumped Wednesday and Thursday on expectations of a good result at the auction. The banks are heavily exposed to sovereign debt and many still have trouble accessing the European interbank market due to concerns over Madrid's high government deficit.

Leading bank Santander's shares were up 4.0 percent on Thursday at 1137 GMT, while Spain's second largest bank BBVA

rose 5.77 percent, after soaring a day earlier.

(Reporting by Nigel Davies; Additional reporting by Jesus Aguado; Editing by Catherine Evans)

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