By Lionel Laurent
LONDON (Reuters) - European equities edged higher in early trade on Wednesday, extending gains from Tuesday after a batch of positive earnings and U.S. economic data briefly calmed worries over stretched valuations and the pace of economic recovery.
However, the prospect of more sanctions against Russia over the Ukraine crisis and a downed Malaysian airliner kept risk aversion on the table in the bond market, where German 10-year yields nudged down to 1.16 percent, just shy of record lows.
The euro also hit an eight-month low against the dollar on concerns that tougher Russian penalties might hit fragile euro zone growth.
The pan-European FTSEurofirst 300 share index was 0.3 percent higher at 0742 GMT, buoyed by better-than-expected earnings from German automaker Daimler and Dutch paint-and-chemicals firm AkzoNobel.
Gains were more muted in Europe - where the pace of economic recovery and the impact of a Russia slowdown have worried investors - than in much of Asia or the United States, where stocks hit fresh milestones and where earnings from bellwethers such as Apple Inc and Verizon topped forecasts.
"Geopolitical tensions are preventing a better market development in Europe," said Christian Stocker, equity strategist at UniCredit.
"Markets will be dominated by consolidation moves due to the uncertainty, combined with high valuations."
Caution also rippled through fixed-income markets, where German bund yields fell and the euro extended losses to hit to $1.3455, its lowest since November 2013, with investors eying more losses in coming days.Fears that the euro-zone economy might take a hit from fresh EU sanctions being considered against Russia, as well as a diverging rate outlook for the United States and the euro area, kept investors from taking more bullish bets on Europe.
"There is quite broad-based pressure building on the euro and there are a number of factors driving that. Europe is directly exposed to Russia by trade - Germany in particular - so sanctions could potentially have a negative impact on the euro," said Ian Stannard, a currency strategist at Morgan Stanley.
Israeli forces pounded multiple sites across the Gaza Strip on Wednesday, including the enclave's sole power plant, and said they were meeting stiff resistance from Hamas Islamists, as diplomats sought to end the bloodshed.
"In light of the geopolitical tensions that are not yet completely resolved in Ukraine and the Middle East there's not much potential for Bund yields to pop higher any time soon," said Christian Lenk, a strategist at DZ Bank.
EMERGING OPTIMISM
MSCI's broadest index of Asia-Pacific shares outside Japan rose 0.5 percent after earlier pushing to a three-year peak, though Japan's Nikkei stock average closed down 0.1 percent as investors kept their focus on tensions in Gaza and the Middle East. [.T]
The declaration of victory in Indonesia's presidential election by a candidate seen as good for business sent emerging-market stocks up to a 17-month high.
Indonesian shares rose nearly 1 percent after reform-minded Joko "Jokowi" Widodo was declared the winner of Indonesia's election while the rupiah set a two month high.
More broadly, MSCI's emerging market equity index touched levels last seen in early 2013, emerging from the nervousness about the impact of the downing of a Malaysian airliner over Eastern Ukraine.
Moscow shares were more than 1 percent higher after signs of cooperation between pro-Russian Ukrainian separatists and investigators looking into the crash of a Malaysian airliner in Eastern Ukraine.
In currencies, the Australian dollar, already on a bullish footing after the country's central bank chief on Tuesday chose not to talk down the currency, added about 0.4 percent to buy $0.9432. It spiked to a nearly two-week high of $0.9439 on surprisingly high core inflation figures that dented rate cut expectations.
U.S. crude dropped about 0.4 percent to around $102 a barrel, falling for a second consecutive session as oil supplies were unaffected by continuing violence and tension in Iraq, Ukraine and Gaza.
(Reporting by Lionel Laurent; Additional reporting by Atul Prakash, Alistair Smout, Anirban Nag, Emelia Sithole-Matarise and Chris Vellacott)
