* ETF holdings see further outflows
* Fed Chairman testifies in Congress for 2nd day (Updates prices, adds comments)
By Clara Denina
LONDON, Feb 27 (Reuters) - Gold retreated on Wednesday, after rising more than 1 percent in the previous session, as fund investors cashed in some gains ahead of a second day of testimony by Federal Reserve Chairman Ben Bernanke.
The metal posted its biggest one-day rise in three months on Tuesday after Bernanke provided reassurance on the Fed's commitment to loose monetary policy, burnishing bullion's appeal as a hedge against inflation.
It struggled to maintain those gains, however, as investors remained wary over gold's longer-term prospects, given expectations for a further recovery in the economic cycle, which could favour higher-risk assets.
Spot gold was down 0.4 percent to $1,606.26 an ounce at 1436 GMT, off a 1-1/2-week high of $1,619.66 on Tuesday. The metal had touched a seven-month low of $1,554.49 on Feb. 21.
U.S. gold futures for April delivery were down 0.6 percent at $1,606.50.
"Prices should stay around current levels ...we don't expect a major reaction to the Bernanke's testimony today, as he should reiterate what he said yesterday about keeping the quantitative easing programme," Commerzbank analyst Daniel Briesemann said.
"Today's losses are also to do with outflows in ETFs, which I wouldn't be surprised to also see in coming days."
Bernanke strongly defended the U.S. central bank's stimulus measures before Congress on Tuesday, easing fears it would cease buying bonds through so-called quantitative easing sooner rather than later.
He was due to testify before the House Financial Services Committee at 1500 GMT.
The three rounds of QE from the Fed have helped gold stage a record-breaking rally in the past few years as investors have worried about currency debasement due to money-printing and have sought to store value in gold.
But concerns that the bank could discontinue the policy on signs of economic recovery have weighed on the metal over the past weeks.
The market was likely to turn its attention to the U.S. automatic spending cuts that are due to kick in on March 1 in a process called sequestration, unless Congress reaches a deal beforehand.
"While (we) do not expect a significant drag on U.S. economic growth resulting from sequestration, we feel the risk that concerns surrounding the issue could nonetheless hurt investor sentiment and disrupt markets cannot be ignored," UBS said in a note.
ETF HOLDINGS FALL FURTHER
As a gauge of investor interest, holdings of the SPDR Gold Trust, the world's top gold-backed exchange-traded fund, fell 2.408 tonnes from the previous session to 1,270.44 tonnes on Feb. 26, in its sixth session of decline.
The sell-off in exchange-traded funds (ETFs) since the start of the year is mostly due to a perceived improvement in the global economic outlook and concerns on the longevity of the Fed's quantitative easing, analysts said.
The dollar was down against the euro after U.S. data showed orders for durable goods unexpectedly fell in January, but the single currency remained fragile after Italy's inconclusive election results spooked financial markets.
European stocks edged higher on relief that Italy was able to sell bonds despite mounting political instability. The auction was the first test of investor demand for the country's debt. U.S. stock futures also opened in positive territory.
Spot platinum dropped 0.8 percent to $1,605.24, trading at around parity with gold, having dipped into a discount for the first time in over a month in the previous session. It slipped to a seven-week low at $1,577.49 an ounce on Tuesday.
Palladium was down 0.8 percent at $737.5. Silver was down 0.7 percent to $29.16. (Editing by Jan Harvey and Alison Birrane)