* Euro dips after posting best gains in eight months
* Clings to much of gains made on Friday’s EU deal
* China PMI not as bad as feared; Europe, U.S. next in focus
By Masayuki Kitano
SINGAPORE, July 2 (Reuters) - The euro dipped on Monday, giving up a bit of ground after its biggest one-day rally in eight months, as investors looked for fresh reasons to extend a rally sparked by initial euphoria over the latest European push to ease the region’s debt crisis.
Markets cheered after euro zone leaders agreed on Friday to let their rescue fund inject aid directly into stricken banks from next year and intervene on bond markets to support troubled members.
The EU leaders also took a step towards banking union by pledging to create a single banking supervisor.
The European summit agreement triggered a rally in Spanish and Italian government bonds and sent the euro soaring some 1.7 percent on Friday, its biggest one-day percentage gain since last October.
While some market players said the euro’s rally may continue for a while longer, others questioned its sustainability.
“I wouldn’t be surprised really for some of the gains to be given back,” said Gareth Berry, associate director of G10 FX strategy for UBS in Singapore. He added that UBS remains bearish on the euro and expects it to end the year at $1.15.
The euro fell 0.3 percent to $1.2621, down from a one-week high of $1.2693 hit on trading platform EBS on Friday.
Berry at UBS cautioned against reading too much into the euro zone bond market’s reaction on Friday, when the yield gap between Spanish and German bond yields narrowed sharply.
“It’s worth mentioning that most of that came through on very low volumes. We saw very little flow, so there’s not a lot of conviction, I think, behind this,” Berry said.
The single currency slipped 0.3 percent against the yen to 100.69 yen. On Friday the euro had jumped 2.2 percent versus the yen, its biggest one-day rise since March 2011.
“The last two weekends’ attempts at providing (market) support -- Greek elections, EFSF funding for Spanish banks -- bought less than a day’s worth of rally in risk assets,” analysts at JPMorgan noted.
“This one should last a bit longer, as it achieved a lot more, but will likely over the next month run into resistance from weak economic data and some back sliding on the EMU summit as officials haggle over the details.”
There was talk of profit-taking in the euro against the yen by hedge funds, while Japanese exporters were spotted selling the yen crosses in the wake of their rally on Friday, market players said.
Japanese exporters’ selling interest in yen crosses is likely to persist, said a trader for a major Japanese bank in Tokyo.
“I don’t think there will be much selling in the dollar unless it rises above 80 yen, but yen crosses led by euro/yen are at pretty good levels,” the trader said.
The dollar held steady against the yen at 79.78 yen, staying below a two-month high of 80.63 yen hit a week ago.
One near-term event risk for the euro is the European Central Bank’s interest rate decision due on Thursday.
According to a Reuters survey, the median market expectation is for the ECB to cut interest rates by 25 basis points to 0.75 percent at this week’s policy meeting.
“If we see a rate cut on Thursday it will certainly be euro negative in my view,” said Berry at UBS. Investors who trade off models based on interest rate differentials are likely to spring into action, he said.
“They will be extremely active in the immediate aftermath of a rate cut and we’d expect them to be heavy euro sellers.”
The market’s immediate focus is the latest reading on European and U.S. manufacturing sectors. China reported on Sunday that its factory activity had slowed to seven-month lows in June, although the outcome was not as bad as feared.
Commodity currencies held onto most of Friday’s gains. The Australian dollar dipped 0.3 percent to $1.0218. On Friday it surged 2.1 percent for its biggest one-day jump in seven months.