World stocks ratcheted higher on Thursday, adding to December's rally, and U.S. Treasuries steadied following their recent sharp sell off.

The dollar also clawed back some losses from the past couple of sessions.

A combination of rising optimism about the U.S. economy, including over a proposed extension of tax cuts, and concerns about the deficit that those measures would worsen, prompted a sharp spike in Treasury yields on Wednesday as investors dumped the bonds.

Thursday, however, saw a cooling of the sell-off ardor.

My hunch is that we are near a selling climax in U.S. Treasuries. Such a feeling is also in the market, dampening the dollar now, said Koichi Yoshikawa, head of forex trading at BNP Paribas in Tokyo.

The yield on 10-tear U.S. Treasuries was around 3.25 percent in early European trading, down around 2 basis points but still around 90 basis points above this year's low hit in late September.

At the Reuters 2011 Investment Outlook Summit held in New York and London this week, leading investors indicated they wanted to avoid benchmark government bonds because their low yields were unsustainable.

We are going to have to get used to rising long-term yields. How else are you going to get the long-term savings returns you need? Andreas Utermann, chief investment officer of fund firm RCM, said at the summit.

The dollar, which has risen on prospects of higher yields from U.S. assets, was down a quarter of a percent against a basket of major currencies on Thursday <.DXY>, essentially tracking the recovery-from-Wednesday mood.

Euro zone debt also gained slightly and tension surrounding peripheral euro zone debt were muted.

STOCKS RALLY

Investors, by contrast, have become more bullish about equities, driving world stocks as measured by MSCI <.MIWD00000PUS> up nearly three percent this month.

The all-country world index was up half a percent on Thursday with its emerging market counterpart <.MSCIEF> gaining around the same.

In Europe, the FTSEurofirst 300 <.FTEU3> gained 0.4 percent.

December's rally is setting some equity indexes up for reasonable 2010 gains. The MSCI all-country, for example, is up around 8 percent for the year to date, while the emerging market benchmark has risen more than 13 percent.

Bonds outflows are negative for the first time since 2009, while equity inflows are their highest since 2006 and money market inflows have turned positive again, Credit Suisse said in a note.

This pattern of funds flow suggests that investors want to be cautious, but realize that bonds carry a risk and that, at the margin, some types of equities are safer than bonds.

(Additional reporting by Dominic Lau, editing by Mike Peacock)

BNP Paribas