Dollar on defensive after data whets risk appetite

Figures released on Wednesday showed the U.S. manufacturing sector grew faster than expected and China's factory output regained momentum in August, while Australia's economy expanded at its fastest pace in three years in the second quarter.

That lifted stocks, commodities and higher-yielding currencies.

But investors hesitated to take fresh positions ahead of the European Central Bank's policy meeting later in the day and Friday's monthly U.S. jobs report, a trader said.

Investors are not aggressively taking risks yet, feeling they need to see the U.S. employment figures before deciding how much risk they can really take, said Shuichi Kanehira, head of FX spot trading at Mizuho Corporate Bank.

The euro inched down 0.1 percent to $1.2794, having risen as high as $1.2856 the previous day.

The next target for the euro is around $1.2873 -- a 38.2 percent Fibonacci retracement of its fall from its August peak of $1.3334 to its August low of $1.2588. The target after that would be $1.2923, touched on August 18.

The euro/dollar is expected to stay in the $1.2500-$1.3000 range that many players feel comfortable with, said a senior trader at a big Japanese bank.

The dollar index, a gauge of the greenback's performance against a basket of six major currencies, was steady on the day at 82.513 after falling 0.8 percent on Wednesday, marking its biggest one-day fall in six weeks.

Major support is seen at the August 18 low of 81.912.

The dollar slipped 0.3 percent to 84.19 yen, moving toward a 15-year low of 83.58 yen hit last week, beyond which lies the record low of 79.75 yen struck in April 1995.

Managers of Japanese mutual funds, or toushin, sold overseas assets as they expect a fall in Tokyo's Nikkei average to prompt retail investors to cancel their toushin holdings, a trader at a Japanese brokerage said.

The Nikkei rose 1 percent, having hit a 16-month low the previous day.

The euro fell 0.4 percent against the yen to 107.72 yen after jumping 1.4 percent the previous day.

The ECB is seen keeping its benchmark refinancing rate at 1.0 percent at Thursday's meeting. It is also expected to extend lending support for banks despite raising its economic growth forecasts as it seeks to balance a multi-speed recovery among the 16 countries in the euro zone.

The Australian dollar fell 0.5 percent to $0.9066 after data showing Australia's trade surplus was A$1.888 billion ($1.72 billion) in July, below market expectations for a surplus of A$3.1 billion.

The Aussie hit a three-week high of $0.9117 on the strong growth data on Wednesday.

INTERVENTION JITTERS

Traders said more players have started to wonder if Japanese authorities might intervene in the currency market to rein in the yen's strength even before it passes its all-time high against the dollar.

Although many still believe the dollar's drop against the yen would have to turn much more volatile or deeper for Japanese authorities to step into the market, some now caution that Prime Minister Naoto Kan could take action any time before Japan's ruling Democratic Party holds a leadership vote on September 14.

Party powerbroker Ichiro Ozawa, challenging Kan for the leadership, said on Wednesday he would implement steps including currency intervention if the yen rose rapidly.

The race is seen as too close to call.

Things would not look good for Kan if he does nothing, letting the yen further appreciate, said Mizuho's Kanehira.

Investor caution, or hope, toward Japanese intervention is running high, he said.

($1=1.098 Australian dollars)

(Editing by Chris Gallagher)