FOREX-Bond selloff boosts dollar, risk currencies knocked lower

* Aussie, Kiwi fall more than 1%

* Pound knocked below $1.39

* Bitcoin slips 5%

* Graphic: World FX rates

By Ritvik Carvalho

LONDON, Feb 26 (Reuters) - The U.S. dollar rose against most major currencies on Friday, lifted by an increase in U.S. bond yields overnight, while risk currencies such as the pound, Aussie and Kiwi dollar took a knock lower.

Government bonds, and particularly U.S. Treasuries, have become the focal point of markets globally. Traders have moved aggressively to price in earlier monetary tightening than the Federal Reserve and other central banks have signalled.

European stocks extended a global equity sell-off, with risk appetite souring as the surge in yields triggered inflation worries. Emerging-market and commodity-linked currencies continued to retreat Friday.

The dollar move is "a function of what's happening on the yields side," said Jeremy Stretch, head of G10 FX strategy at CIBC World Markets. The 10-year yield briefly climbed above the S&P 500 dividend yield on Thursday, Stretch noted, indicating "uncertainty that is writ large".

"But I think we're going to continue to see central bankers pushing against the notion of earlier-than-expected policy reversal and that, alongside an unwind of some end-month uncertainty, will provide a more constructive backdrop for the high beta currencies versus the dollar into the start of next month," he said.

The dollar index rose to 90.75, up 0.4% on the day and at its highest level in over a week.

It gained against the yen, touching 106.52 for the first time since September. Both the dollar and yen are considered haven currencies, but the yen tends to decline when U.S. yields rise, the dollar to strengthen.

Bond yields have climbed this year on the outlook for massive fiscal stimulus amid continued ultra-easy monetary policy, led by the United States.

An acceleration in the pace of vaccinations globally has also bolstered what has become known as the reflation trade, referring to bets on an upswing in economic activity and prices. Sterling, a huge beneficiary of the reflation narrative, hit its lowest in over a week to $1.3890 - over two cents lower than Wednesday's 2-1/2 year high of $1.4240.

In recent days, though, a rise in inflation-adjusted bond yields has accelerated, indicating a growing belief that central banks may need to pare back ultra-loose policies, despite their dovish rhetoric.

The benchmark 10-year Treasury yield surged above 1.6% overnight for the first time in a year, after an auction of $62 billion of seven-year notes was met with weak demand.

The Australian dollar continued its retreat after topping $0.80 on Thursday for the first time since February of 2018, declining over 1.5% to $0.7731, its lowest level since Feb 17.

Marshall Gittler, head of research at BDSwiss, said the Australian dollar was underperforming despite the market signalling higher growth likely because the country's central bank's yield curve control policy would restrain its bond yields moving much higher. That, in turn, could limit the attractiveness of the currency going forward.

The New Zealand dollar - also known as the Kiwi - dropped 1.3% to $0.7268, its lowest since Feb. 19.

The Canadian dollar weakened 0.1% to 1.2659 to the greenback after falling from its own three-year top at 1.2468 overnight.

The euro slid 0.6% to $1.21050 after touching a seven-week high of $1.22435 on Thursday.

Bitcoin fell 5% to $44,713. Ethereum traded at $1,479 following a 9% drop.

(Reporting by Ritvik Carvalho; additional reporting by Kevin Buckland in Tokyo; editing by Larry King and Steve Orlofsky)

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