FOREX-Dollar rallies as weak sentiment boosts haven demand

* U.S. dollar index recovers from 2009 low

* Euro falls from 7-1/2 week high vs dollar

* U.S. consumer confidence fell more than expected

* Aussie dollar gains on rate hike expectations (Adds comments, updates prices, changes byline)

By Gertrude Chavez-Dreyfuss

NEW YORK, July 28 (Reuters) - The dollar rose from its lowest level of the year against a currency basket on Tuesday as weak consumer confidence rekindled worries about the stability of the U.S. economy's recovery, increasing safe-haven demand for the greenback.

The yen also rallied across the board as investors dumped riskier assets. The lower-than-expected U.S. consumer sentiment index added to pessimism that was already evident in financial markets amid disappointing quarterly results from a handful of major companies such as Office Depot Inc .

That weighed heavily on stock and oil prices and dragged down the Australian dollar from its highest level against the U.S. currency since September.

"There's a pullback in risk appetite with the U.S. consumer confidence data and that's why we're seeing the yen and dollar gaining," said Vassili Serebriakov, senior currency strategist at Wells Fargo in New York.

"The data suggests that recovery signs in the U.S. are mixed and today's second straight decline in consumer confidence shows the consumer is still fragile and vulnerable."

In early afternoon trading, the ICE Futures' U.S. dollar index, which measures the performance of the greenback against a basket of currencies, rose 0.4 percent to 78.950 <.DXY>. It had earlier fallen to 78.315, its lowest since December.

The euro fell 0.6 percent to $1.4159, having earlier climbed as high as $1.4303, its highest since early June, according to Reuters data.

Analysts said the euro's losses may have also reflected the unwinding in huge euro long positions accumulated by speculative traders.

Data from the Commodity Futures Trading Commission last Friday showed speculators more than doubled their bets on the euro in the week ended July 21. That was the largest euro long positions since March 2008.

INVESTORS OVERSHOT EXPECTATIONS

"We've had a nearly two-week run-up in stocks and a flight into riskier currencies. Markets are kind of technically overbought in terms of risk and due for a bounce," said David Gilmore, a partner at Foreign Exchange Analytics in Essex, Connecticut.

He also said investors have probably overshot their expectations about the economy.

Against the yen, the dollar fell 0.7 percent to 94.50 yen , while the euro dropped 1.3 percent to 133.78 yen.

Yen and dollar buying increased after U.S. consumer confidence fell more than expected to 46.6 in July, Conference Board data showed, recording its second consecutive decline as sentiment remained hampered by a difficult job market. For more, see [ID:nN28106587].

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That nullified a Standard & Poor's/Case Shiller report showing U.S. single-family monthly home prices rose in May, the first increase in nearly three years. [ID:nNYS005264]

Wells Fargo's Serebriakov said even though consumer confidence dropped, investors should find comfort in the fact that there are "encouraging signs that the housing market may be finding a bottom."

On balance, he thinks the worst of the global financial crisis has passed.

The Australian dollar, meanwhile, earlier rallied to a high of US$0.8338 after Australia's central bank governor fueled speculation interest rates may rise soon.

Reserve Bank of Australia Governor Glenn Stevens said risks to the economy were now more balanced and low interest rates could inflate a housing bubble. Analysts said Stevens gave the clearest sign that the RBA was likely done with its easing policy. [nSYD518060] (Additional reporting by Wanfeng Zhou; Editing by Chizu Nomiyama)