* Appetite for risk increases as equity markets advance
* European manufacturing, services data boosts euro demand
* US existing homes fall less sharply than expected (Updates prices, adds comment)
By Wanfeng Zhou
NEW YORK, July 22 (Reuters) - The euro rose more than 1 percent against the dollar on Thursday after data on the U.S. housing market and the euro zone manufacturing and services sectors revived investors' appetite for risk.
The yen erased most early gains versus the dollar and dropped sharply against other currencies as U.S. stocks rallied, helping improve sentiment a day after Federal Reserve chairman Ben Bernanke painted a gloomy outlook for the U.S. economy.
"Traders have reverted to risk-seeking mode this morning," said Kathy Lien, director of currency research at GFT Forex in New York, citing the rise against the yen on the U.S. housing data. "The dollar received a boost because the data was not nearly as bad as everyone had feared and because the median price of a home sold rose 1.0 percent."
U.S. existing home sales fell 5.1 percent in June, an industry group reported, less than the 8.1 percent decline expected according to a Reuters poll. [ID:nN22230580]
The euro
James Chen, chief technical strategist at FX Solutions said the euro/dollar "tentatively" broke above resistance at $1.2900 and further gains are likely.
"If another attempt at a $1.3000 breach takes place, key upside resistance on such a bullish move resides in the significant $1.3100 price region," he said.
The dollar was down 0.1 percent at 87.01 yen
A survey showed the euro zone's private sector surged ahead this month, with the pace of growth accelerating in both the services and manufacturing sectors. See [ID:nSLALIE68S][ID:nBRQ009921]
"There's been a reversal in risk appetite and market sentiment," said Vassili Serebriakov, currency strategist at Wells Fargo in New York. "The markets are focusing on the fact that European economic recovery appears to be well on track."
The dollar was trading down 1 percent versus a currency basket <.DXY> at 82.557 after slipping to a low 82.462.
Attention focused on the release of European bank stress test results, due at 1600 GMT on Friday, although some sources said the results might be released earlier. [ID:nWEA0704]
The euro has had a good run against the dollar in anticipation of the test results, rising to a 10-week high above $1.30 on Tuesday as traders bet most of the 91 European banks being examined would pass. [ID:nLDE66K0YO]
Some in the foreign exchange markets say the test results could be positive for the euro if they reveal no unpleasant surprises, but doubts linger whether the checks are tough or transparent enough.
"The market has certainly bought the rumor going into this week that the stress tests will be positive and people have been going long euro/dollar," said Lauren Rosborough, currency strategist at Westpac. (Editing by Leslie Adler)