LONDON- Worries about Ukraine and the removal of help for economies over COVID-19 will challenge markets, which were already showing signs of being overvalued and heading for sharp corrections over coming months, the European Union's securities watchdog said on Tuesday.

The threat of a possible invasion by Russia of Ukraine raises the risk of further bouts of volatility, especially in sectors such as energy and commodities, the European Securities and Markets Authority (ESMA) said in a report on trends in risks.

"We maintain our assessment of very high market and liquidity risks; high credit, contagion and operational risks; and elevated environmental risks," ESMA said.

"Going forward, we continue to see high risks to institutional and retail investors of further – possibly significant – market corrections."

Western governments have warned Russia that it faces hefty sanctions if it invades Ukraine.

Steffen Kern, head of risk analysis at ESMA, said exposures to Russia varied across the EU, and an escalation in tension would move beyond the energy sector and into commodities like metals.

Exposures in the investment funds sector and derivatives to Russia were, however, limited, Kern said.

"Commodities are high on our monitoring agenda, cyber risk is very high on our monitoring agenda," Kern said, adding that ESMA was ready to help deal with any severe market disruptions.

The watchdog is also monitoring how "zombie" or highly indebted companies would cope with rises in interest rates.

It is also keeping an eye on higher premiums or "greeniums" on bonds which tout their green credentials, even though there are no official sustainability standards or independent checks.

Combating potential "greenwashing" or over-inflated green credentials in investments has become a priority for ESMA. 

(Reporting by Huw Jones; Editing by William Maclean and David Holmes) ((; +44 207 542 3326; Reuters Messaging: