Spanish bank Sabadell flags margin pressures in post-crisis economy

* Sabadell beats first-half profit forecasts

* But points to pressure on lending margins

* Shares (Frankfurt: DI6.F - news) fall 3 pct (Recasts to focus on loan margins, profitability)

By Sarah White and Jesús Aguado

MADRID, July 24 (Reuters) - Spanish bank Sabadell's lending margins in its home market could slip further, it said on Friday, overshadowing a first-half profit surge and potentially putting profitability targets under pressure.

The mixed results were a reminder of the battle Spain's lenders still face to jumpstart returns even as the country's economy improves, with many borrowers reluctant to take on debt and banks' stocks of loans falling.

Shares in Sabadell were down 3 percent at 0936 GMT, as other Spanish banking shares also fell, especially those of mid-sized lenders mostly focused on the domestic market, such as Bankia and Popular (NasdaqGS: BPOP - news) .

Still, Sabadell's stock is up 12 percent so far this year, the biggest gainer among mid-sized banks which are due to report second-quarter results next week.

The Catalonia-based lender, which grew during Spain's financial crisis, is seeking growth overseas after it broke into Britain earlier this year with the 1.7 billion-pound ($2.63 billion) purchase of TSB.

Sabadell, which has not yet included TSB in its results, posted a 55 percent jump in profits in the first half of the year, beating forecasts and helped by a rise in net lending income.

But the average yield on its loans dipped to 3.2 percent in the April-June period from 3.3 percent a quarter earlier, and the bank signalled the squeeze may continue.

"We can't rule out additional pressure on lending margins," Sabadell Chief Financial Officer Tomas Varela told an investor conference call.

He said competition among Spanish peers to win over profitable small business clients was particularly fierce.

That has led many banks to try and undercut each other on price. Many have taken cheap funds - designed to help revive the euro zone economy - from the European Central Bank in the past year and are now trying to funnel those to borrowers.

Sabadell said it would still maintain its targets, including a 1 billion euro net profit in 2016 and return on equity (ROE) of 10 percent.

ROE, a measure of profitability, dipped to 5.5 percent in the second quarter, from 7 percent in the first, in part after Sabadell raised equity to finance the TSB deal.

"There are a number of things that might happen and put pressure on targets, but all things considered, we (...) are still confident can deliver this," Varela said.

($1 = 0.6456 pounds) (Editing by Julien Toyer and Susan Thomas)