* Euro hits day's low after weak Portugal auction results
* Losses limited by higher shares on buoyant U.S. earnings
* Investors await Bernanke for monetary policy view
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By Naomi Tajitsu
LONDON, July 21 (Reuters) - The euro slipped against the dollar on Wednesday after a weak auction of Portuguese debt highlighted the fragility of the euro zone banking sector ahead of European bank stress test results later in the week.
Portugal sold 1.25 billion euros in 12-month Treasury bills, but the average yield more than doubled from the previous sale, while the bid-to-cover ratio was much lower. [ID:nLSB000016]
The euro hit the day's low after the auction, as traders booked profits on the single currency's rally to a 10-week high, while investors awaited testimony from Federal Reserve Chairman Ben Bernanke.
"The euro is correcting lower as a result of the Portuguese auction," said Michael Hewson, currency strategist at CMC Markets.
"It doesn't take much to sow seeds of doubt in the euro."
Still, he added that euro losses were limited as traders awaited Bernanke's semi-annual testimony on the economy and monetary policy at 1800 GMT.
After a run of weak U.S. data, investors waited to see if his remarks would boost speculation the Fed may offer more monetary accommodation.
By 1014 GMT, the euro EUR= was down more than 0.4 percent on the day at a session low of $1.2818. It fell some 1.0 percent against the yen EURJPY=R and 0.5 percent versus sterling.
But its downside was limited as a 1.6 percent rise in European shares .FTEU3 suggested some demand for riskier assets, while support was seen in the $1.2755/1.2785 region.
The 50 percent retracement of the euro's peak-to-trough move in April-June lies at $1.2783, according to Reuters data, while trendline support drawn from lows hit so far this month came in at $1.2757 on Wednesday.
Some analysts said market participants were looking for fresh factors to extend the single currency's corrective rally, and it may be confined to narrow ranges before results of European bank stress test are announced on Friday.
The dollar JPY= slipped 0.5 percent to 87.04 yen on selling by Japanese exporters. It hovered near a seven-month trough of 86.27 yen on EBS late last week.
Sterling was little changed at $1.5280 GBP=D4, recouping losses after falling sharply due to an erroneous trade.
The dollar is struggling as expectations of a Fed rate rise in 2011 fade, while speculation about more easing has grown after weak U.S data. Figures on Tuesday showed housing starts fell more than expected in June. [ID:nN20249501]
The two-year U.S. Treasury note yield hit a record low of 0.57 percent on Tuesday, about 20 basis points less than the yield on two-year German bonds. Until less than a month ago, U.S. notes yielded more than German debt. Some analysts say the reversal has spurred buying in the euro.
With interest rate differentials playing a key role in currency markets, Bernanke's comments could set the tone of the markets in coming weeks, traders said.
Analysts said euro movements may be limited before the results of bank stress tests as they may show how European banks would cope with weakness in the region's economy.
Still, some analysts said investors may not be convinced by the results if the test criteria are considered to be too lax. "The credibility of the stress test will crucially depend on applied sovereign hair cut ratios and too much of a fudge on this side will not bode well for the euro," analysts at BNP Paribas said in a note.
(Editing by Nigel Stephenson)