(Updates prices, adds detail)
By David McMahon
NEW YORK, July 27 (Reuters) - The U.S. dollar rebounded sharply on Friday, after a fall in the previous session, as trouble in the U.S. credit markets led investors to repatriate funds from overseas.
Worries about ongoing problems in the U.S. subprime mortgage and corporate bond markets have led investors to shun bets in riskier assets such as foreign stocks this week, helping the dollar recover more than two cents from record lows against the euro as money flows back into the United States.
Meanwhile the flight from risk has led some traders to cut their exposure to carry trades, or purchases of high yielding currencies such as the New Zealand dollar, financed by selling low-interest rate currencies like the yen or Swiss franc.
"The focus of the market is still taking risky trades off the table," said David Powell, senior currency strategist at Ideaglobal in New York. "Overall, it's not really a dollar story, but it's about rallying low-yielders and falling high-yielders."
The U.S. dollar held on to its overnight gains and was set for its best week in six months after a preliminary estimate from the government showed the U.S. economy in the second quarter grew at its fastest pace since the first three months of last year.
Late afternoon in New York, the euro <EUR=> was down 0.8 percent against the dollar at $1.3635, more than two cents below a record high hit earlier in the week <EUR=>.
The dollar was up almost one percent on the week against a basket of six major currencies, its best performance in around seven months.
Against the yen <JPY=>, the dollar rose 0.3 percent to 118.75. Earlier, the dollar fell as low as 118.02 <JPY=EBS>, according to electronic trading platform EBS, its lowest in around three months.
On the week though, the dollar was still down around 2.6 percent against the yen, its biggest fall in around four months. The yen has fared even better against high-yielding currencies like the New Zealand dollar.
The kiwi dollar tumbled 6.6 percent against the yen this week, its biggest weekly fall since a 10 percent plunge in October 1998, in the midst of a financial panic sparked by a Russian debt default and the collapse of the hedge fund Long-Term Capital Management.
The New Zealand dollar dropped 2.2 percent to US$0.7640 <NZD=> on Friday, while the Australian dollar sank 2.1 percent to US$0.8510 <AUD=>.
Some analysts said the U.S. dollar's rebound was likely to soon loose steam, particularly given concerns that weakness in the U.S. housing market will spill over into the broader economy, slowing growth.
"While the USD rebound could have a bit farther to run, particularly against some of the higher-yielding currencies, we think its strength will be limited over the medium term by a return of focus to an economy at risk," analysts at Scotia Capital wrote in a note to clients.
The futures market is indicating an 82 percent chance the Fed will ease monetary policy by year-end (FFZ7: Quote, Profile, Research), up from 76 percent overnight. Earlier in the week markets were pricing in just a 50/50 chance of a quarter point rate cut by year end.
(Additional reporting by Gertrude Chavez-Dreyfuss)