London: Investors shed Greek bonds and stocks on Tuesday on reports that the International Monetary Fund may cut a funding lifeline to Greece unless its European partners accept more debt writedowns.

The warning, reported in the Financial Times to have been made by the IMF’s European head, Poul Thomsen, to Eurozone finance ministers at their meeting in Riga last month, came amid negotiations between cash-strapped Greece and international creditors on reforms needed to unlock new aid.

It is said to be based on data provided by Athens to the IMF that shows it will return to a budget deficit this year. The EU Commission sharply cut Greek growth and budget forecasts on Tuesday, but expects Athens to record a surplus of 2.1 per cent in 2015.

Sources told Reuters that the IMF was not specifically pushing for another round of debt relief, rather outlining the options facing Athens and its creditors if its fiscal mathematics did not add up.

“I do not believe he [Thomsen] was advocating debt relief, but rather illustrating the options. In the past he has argued that as long as the debt servicing burden was low, a haircut on the principal was beside the point,” said one source briefed on the IMF’s position in the meeting.

The only kind of debt relief that the Eurozone has shown willingness to consider so far is extending the maturities of loans to Greece, further reducing the interest rate on the original loans, and possibly extending the moratorium on interest payments.

Greek 10-year yields rose 50 basis points to 11.17 per cent, having hit a two-month low of 9.84 per cent on Monday, while two-year yields were up 167 bps at 21.22 per cent.

Other low-rated debt in Portugal, Italy and Spain also suffered, as investors returned to safe haven German bonds.

Portuguese, Italian and Spanish 10-year yields rose 6 bps to 2.15 per cent, 1.59 per cent and 1.56 per cent.

Greece’s share index was down 2.8 per cent, while banking stocks fell nearly 6 per cent.

“News that the IMF feels Greek debt is once again reaching unsustainable levels might be the final warning the Greeks need to acquiesce,” said Connor Campbell, an analyst at Spreadex.

“The country has stared down this kind of alarming news before, so as ever there is no guarantee of a solution being reached.” European Central Bank governing council member Christian Noyer also warned on Tuesday that Greek banks risk running out of sufficient collateral to obtain emergency central bank liquidity.

Having risen nearly 30 basis points over the last three trading days to touch levels not seen since mid-January, German 10-year yields edged down 1 bps to 0.43 per cent.

Strategists said the rise in yields was driven by easing deflation fears, strong US data boosting prospects for a US interest rate hike, and renewed hopes for a financing deal to keep Greece afloat.

“In the last days there was quite an improvement in mood about Greece, so this could mark a bit of a slowdown in things and could be a reason for investors to take a more prudent approach,” said UniCredit strategist Luca Cazzulani.