* Euro hits four-month peak on reports of progress on EU talks
* Italian-German spread falls to 162 bps, lowest since late March
* Euro zone stock markets sink in risk-off moves
By Ritvik Carvalho
LONDON, July 20 (Reuters) - The euro and euro zone bond markets held out hope European Union leaders would strike a deal on a recovery fund for the bloc's pandemic-ravaged economy on Monday, but the region's stock markets took a cautious turn lower as talks paused.
The single currency hit its highest levels against the dollar since March 9, at $1.1467 EUR=EBS after reports of progress following three days of negotiations towards the proposed 750 billion-euro fund. FRX/
Bond markets also cheered the progress, with the risk premium investors pay for holding Italian government debt over Germany's - the bloc's benchmark - falling to 162 basis points, the lowest level since March 27. GVD/EUR
Stock markets kept the optimism in check, however. The pan-European STOXX 600 index .STOXX fell 0.6% in early deals. .EU
Talks on the fund were adjourned on Monday until 1600 CET (1400 GMT). After the adjournment was announced, both the Austrian Chancellor Sebestian Kurz and Dutch Prime Minister Mark Rutte said progress was being made. group of wealthy northern European states pushed during the summit for a smaller recovery fund and sought to limit how payouts are split between grants and repayable loans.
An attempt to reach a compromise failed on Sunday. A deal envisaging 400 billion euros in grants - down from a proposed 500 billion euros - was rejected by the north, which said it saw 350 billion euros as the maximum.
Discussions over the grants has since narrowed, with EU summit Chairman Charles Michel saying they would be based on 390 billion euros combined with smaller rebates.
"The euro has gained on the likelihood that they do come up with some solution at this meeting," said Marshall Gittler, head of investment research at BDSwiss Group.
"I had expected them to fail, or at best to come to only a partial agreement, but the fact that they've kept at it for this long shows that they really are determined to succeed," Gittler said. A successful agreement would probably give the euro a further boost, he said.
Earlier in Asia, MSCI's broadest index of Asia-Pacific shares outside Japan .MIAPJ0000PUS gained 0.14%, reversing loses earlier in the day.
Chinese markets rose more than 2% after regulators raised the equity investment cap for insurers and encouraged mergers and acquisitions among brokerages and mutual fund houses.
Australia's S&P/ASX 200 index .AXJO dropped 0.5% after authorities warned that a surge in COVID-19 cases in the country's second most populous state could take weeks to tame. than 14 million people have been infected by the novel coronavirus globally and nearly 602,000 have died, according to a Reuters tally. Korea's KOSPI .KS11 pared gains to fall 0.1%. Japan's Nikkei .N225 was also down 0.1% after data showed the country's exports suffered a double-digit decline for the fourth month in a row in June. the United States, Congress is set to begin debating a new aid package this week, as several states in the country's South and West imposed new lockdowns to curb the virus.
The virus has claimed over 140,000 U.S. lives since the pandemic started, and Florida, California, Texas and other southern and western states shatter records for new cases every day. Street futures traded 0.6% lower. ESc1 .N
In currencies, the dollar climbed 0.2% against the Japanese yen JPY= to 107.22. Sterling was flat at $1.2570. The risk-sensitive Australian dollar AUD=D3 was down 0.1% at $0.6989.
In commodities, spot gold XAU= fell to $1,807.6 an ounce, still near a nine-year top.
Oil prices fell, unnerved by the prospect of rising coronavirus cases halting a recovery in fuel demand. U.S. crude CLc1 and Brent LCOc1 were both down 1% each to $40.14 per barrel and $42.71 per barrel, respectively. O/R
Prices for copper CMCU3 , a barometer of economic growth, fell on Monday after data showed rising inventories in Chinese warehouses and on concern the climbing coronavirus cases threatened a sustainable global recovery. Euro, euro zone bond markets during coronavirus crisis
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