* Euro rises to two-week high versus dollar and yen * Stop-losses lurking above, scope for further short squeeze * Spain bond sale adds to optimism but debt caution persists By Neal Armstrong LONDON, Jan 19 (Reuters) - The euro rose on Thursday, supported by a solid Spanish debt auction and cautiously positive risk appetite which could spur a further squeeze of short positions, but brief rallies were unlikely to break the single currency's downtrend. Spain sold 6.61 billion euros of government bonds on Thursday, more than its announced target, in an auction which analysts said went well, supported by domestic banks and a pickup in appetite for riskier assets. That ensured the euro retained support after hitting two-week highs versus the dollar and the yen in earlier trade. Hopes the IMF could boost its resources to help countries deal with the euro zone debt crisis and some optimism over talks to avoid a chaotic Greek default were adding to the positive tone. "We think the ongoing short squeeze we've seen in the euro this week can continue. The newsflow we are seeing is reasonably encouraging for risk with the IMF headlines yesterday and hopes growing over the Greek restructuring talks," said Tom Levinson, currency strategist at ING. Talks between Greece and its creditors are proceeding, but much more progress is needed before a bond swap to reduce the country's towering debt pile is reached, three sources close to the talks said. The euro was up around 0.3 percent on the day at $1.2898 after traders said stops were triggered on the break of Friday's high of $1.2879 en-route to a two-week high of $1.2914 on EBS. More stops were scattered above $1.2900, with scope for another squeeze of positions and a test of the Jan. 5 high of $1.2946. A daily close above the euro's 21-day moving average at $1.2875 would be a positive technical sign, while traders said an Asian sovereign account sold around the day's high. "The market is decidedly less short euros than it was but it is still short and there is scope for a bit of a squeeze from here," said Chris Walker, currency strategist at UBS. The euro moved further away from Friday's 17-month low of $1.2624, with bids reported at $1.2840 and downside stop-losses through $1.2800. Against the yen, the euro fetched 98.95 yen after hitting a two-week high of 99.05. It has gained more than 2 percent since hitting an 11-year low of 97.04 on Monday. Still, uncertainty over the euro zone debt crisis would continue to weigh on the euro and upticks were unlikely to last long. "We're not looking for a large rally in the euro and stick with our forecast of $1.20 by the middle of the year," said Levinson. The euro hovered near a four-month low of $1.2062 Swiss francs, within sight of the Swiss National Bank's 1.20 floor which is likely to be strongly defended if threatened by a renewed attack on the single currency. RISK APPETITE News that the International Monetary Fund is seeking to more than double its war chest by raising $600 billion in new resources to help countries deal with fallout from the euro zone debt crisis improved risk appetite. Risk appetite was also helped by gains on Wall Street after Goldman Sachs' earnings exceeded analysts' expectations, even though they fell sharply, and dispelled some anxiety over bank profits, though equity futures were treading water. This week's recovery in the euro helped push the dollar index to two-week lows at 80.274, down 0.3 percent and recoiling further from a 16-month peak of 81.784 hit on Friday. Against the yen, the dollar was little changed at 76.70 yen . Traders though had one eye on next week's Bank of Japan policy meeting for potential action on the Japanese currency given its recent 11-year high versus the euro and its proximity to record highs versus the dollar of 75.31. The high-yielding Aussie dollar slipped to a session low of $1.0371 after data showed a surprise fall in Australian unemployment in December. The Aussie slipped away from an 11-week high of $1.0450 set on Tuesday, also falling below its 200-day moving average at $1.0407, before steadying at around $1.0400.

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