The dollar clawed back ground against the euro and Swiss franc and rose sharply against high-yielding currencies on Friday as investors sought safety in liquid assets after the previous day's bombings in Madrid.
The Australian dollar and sterling were the hardest hit as investors exited once-lucrative bets on currencies with high interest rates -- often funded with short dollar positions.
"A lot of riskier positions in high-yielding currencies were financed by dollar short positions, which people are now buying back," said Steve Pearson, chief currency strategist at Halifax Bank of Scotland.
"This explains why the dollar is rising even though there remains uncertainty who was behind the attacks in Madrid and whether they are a domestic or a global terror event."
Sterling fell almost two cents to a seven-week low of US$1.7908. The Australian and New Zealand dollars also fell more than one percent from the US close, extending this week's losses against the greenback to three-month lows.
The dollar's rebound against high-yielding currencies helped lift the US currency up a third of a percent against the yen, more than half a percent against the euro.
The dollar also recouped much of the previous day's losses against Thursday's top performer, the Swiss franc, rising as much as one percent on the day.
Spanish authorities have blamed Basque guerrilla group ETA for Thursday's blasts on packed Madrid commuter trains, but suspicion al-Qaeda may be have been behind the atrocity has sent shockwaves around the world.
The dollar fell sharply against both the euro and the Swiss franc on Thursday after an Arabic newspaper said a letter purporting to come from al-Qaeda claimed responsibility for the bombings, which killed some 200 people.
Spain's Prime Minister Jose Maria Aznar said on Friday no line of investigation would be ruled out.
"The Madrid bombings heightened a rush to unwind carry trades that was already in place," said Shahab Jalinoos, senior currency strategist at ABN AMRO.
"Euro/dollar is playing second fiddle to bigger moves in the high yielding currencies."
European shares fell to two-month lows on Friday as concern more attacks would follow Thursday's deadly blasts prompted investors to dump riskier equities and take refuge in the sanctuary of government bonds.
Mixed economic news from the US has dampened risk appetite, even before Thursday's bombings.
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