The euro, shares and commodities all gained on Tuesday encouraged by hopes for a Greek bond deal this week and after European leaders backed a pact that is hoped will tackle the underlying causes of the region's debt crisis.
Greek Prime Minister Lucas Papademos said negotiators had made "significant progress" in talks to strike a restructuring deal on government debt and aimed to have a definitive agreement by the end of this week.
The euro was up 0.4 percent to $1.3180, edging towards a six-week high of $1.3235 hit last week as the Greek debt fears eased.
Optimism about a Greek deal, seen as necessary to release the bailout funds needed to prevent a messy debt default in March, also calmed rising fears that Portugal might need a second rescue as Lisbon's borrowing costs soar.
"It seems the market is pushing Portugal down the same path as Greece, and bond holders are now coming to the reality that they may have to write-off some of their Portuguese debt holdings further down the line," Chris Weston, institutional dealer at IG Markets, said.
The pan-European FTSEurofirst 300 index of top shares was up 0.5 percent at 1,035.89 points. Banks were among the top gainers as debt fears receded and amid signs liquidity will get a boost at next month's European Central Bank three-year loan tender.
"The market is currently keeping aside the various risk factors like the possibility of a Portuguese debt restructuring on hopes of more liquidity injection by the major central banks," said Sebastien Galy, FX strategist, at Societe Generale.
The U.S. Federal Reserve kept the door open for more quantitative easing and a Reuters poll showed the ECB will allot 325 billion euros at its next long-term refinancing operation on Feb 29.
The pan-European FTSEurofirst 300 index of top shares was up 0.5 percent at 1,035.89 points, with banks among the top gainers.
As Greek debt fears receded and Asian markets extended their strong start to the year the MSCI world equity index rose 0.6 percent to 317.44, and is on track for a rise of around six percent for January.
BUDGET DEAL WELCOMED
The new fiscal pact approved by 25 of the 27 countries in the European Union on Monday sets strict new measures on sovereign budget discipline, intended to prevent a repeat of the massive overspending behind the region's debt crisis.
The deal sent the price of German debt futures down 22 ticks to 139.45 as demand for one of euro zone's safest and most liquid assets eased from recent extremes.
"The move that we are seeing is based on the idea that at least the politicians didn't disappoint investors too much," said Michael Leister, strategist at DZ Bank.
The EU agreement was seen helping stall Monday's selling pressure on Italian debt. Ten-year yields fell 8 basis points to 6.02 percent, while the Spanish equivalent eased 2.5 basis points to 4.79 percent.
Portugal's 10-year government bond yields were around 17.1 percent after breaking through the 17 percent level on Monday, to reach euro-era highs of around 17.4 percent, stoking the fears that Lisbon may become the next Athens.
On the economic front though data continues to show a worsening picture for much of the region although the powerful German economy continues to do well.
Italy's seasonally adjusted unemployment rate rose in December to 8.9 percent from an upwardly revised 8.8 percent in November, reaching its highest level since records began in 2004. That follows a rise in Spain's jobless rate to 22.9 percent in the fourth quarter.
Germany's unemployment rate fell for a second consecutive month in January, dipping to 6.7 percent and marking a new record low since figures for unified Germany were first published, data showed.