* Graphic: World FX rates in 2018 tmsnrt.rs/2egbfVh
By Saikat Chatterjee
LONDON, April 27 (Reuters) - The dollar extended gains on Friday and is set to post its biggest weekly rise in more than 1-1/2 years as a rise in U.S. Treasury yields above key psychological levels this week prompted currency bears to unwind some of their short bets.
Sterling was the biggest loser among major currencies as weaker-than-expected first quarter growth numbers further whittled away at the likelihood of a rate hike next month.
Against a basket of rivals, the dollar rose 0.3 percent to 91.90, its highest level since Jan 12. For the week, it has gained more than 1.5 percent and is on track to post its best weekly performance since late November 2016.
"A combination of market positioning, such as the speculative record net long euro position, rising U.S. interest rates, and diverging economic performances has spurred the move," said Marc Chandler, global head of currency strategy at Brown Brothers Harriman in New York.
While the dollar has ignored yield differentials for more than a year with investors preferring to give greater weight to the momentum of economic recovery in other major economies, notably Europe, this week's spike of 10-year U.S. Treasury yields above the 3 percent mark forced investors to acknowledge the widening yield differentials favouring the greenback.
"U.S. rates didn't matter for the dollar, now they do and our positioning metrics suggest there is further scope for short dollar positions to be unwound," said Michael Sneyd, global head of FX strategy at BNP Paribas in London.
Benchmark 10-year U.S. Treasury yields surged past the 3 percent mark earlier this week before peaking out at 3.03 percent on Wednesday. Short-dated U.S. yields hit a more than a decade high of 2.51 percent on Wednesday.
The rise in U.S. Treasury yields has unnerved some currency bears who had piled multi-year short bets against the dollar on expectations the world's biggest economy was in the late stages of an economic expansion which might force the central bank to slow the pace of its policy tightening.
"We think those concerns are unfounded and the U.S. central bank is on track for three if not four rate hikes in 2018," said Nish Parekh, a senior trader with Silicon Valley Bank based in London.
Speculators' net dollar short position in currency futures in Chicago, a closely-watched indicator on market positioning, had hit a 6-1/2-year high, suggesting some short-covering will be due.
The dollar's gains were more broadbased as the U.S. Federal Reserve is seen as raising rates a few more times this year compared to other major central banks such as the European Central Bank and the Bank of Japan, who have struck varying degrees of caution.
In the BOJ's first policy meeting under the new leadership, the central bank dropped a reference to inflation reaching its two percent goal in about two years. However, few see policy implications from this shift in communication.
Sterling slumped to its lowest in nearly two months after Britain's economy slowed much more sharply than expected in the first three months of 2018, slashing market expectations of a Bank of England interest rate hike in May.
"The myth of the pound always strengthening in April appears well and truly dismissed following a UK GDP result which shocked to the downside in the first quarter of the year," said John Goldie, an FX trader at Argentex in London.
In Japan, the Japanese yen was little changed after the central bank's policy decision at which it kept settings unchanged.
The dollar changed hands at 109.17 yen, having risen to a 2-1/2-month high of 109.49 yen earlier in the week. So far this week, it has gained 1.4 percent.
The euro, in which speculators held record long position, fell to $1.20965 in the previous session, its lowest level since Jan. 12. It last stood at $1.2112, and is down 1.4 percent on the week.
Reporting by Saikat Chatterjee; Editing by Jon Boyle