LONDON, Jan 27 (Reuters) - Hedge funds in January have snapped up the most European stocks compared to U.S. equities for 20 years, but investment bank research published this week signaled this could be more of a bear retreat than a bull run.

Much of the buying was by algorithm-driven funds that unwound their previous bearish bets on European equities, according to a JPMorgan note published this week and seen by Reuters on Friday.

European stocks are up around 6% so far this month, lifted by China's reopening and a milder-than-expected winter that has eased the fallout from the energy shock.

Hedge funds splurged on sectors such as steel, airlines and retail, in what the bank said was largely short covering - unwinding a bet placed in the past that an asset will weaken.

They were not bullish on everything. Hedge funds took out short positions in oil and gas, UK mining companies and European banks, JPMorgan said.

But sterling's recent strength against the dollar has encouraged global hedge funds to buy the stock of domestically focused UK companies, the bank said. Sterling is up roughly 2.5% so far this month.

U.S. equity hedge funds started 2023 with 18% less leverage than they had in 2022. This cash would normally be used to borrow stocks and then sell short, according to a note from Morgan Stanley on Tuesday.

It would normally be a bullish signal to see a swell of buying among hedge funds like this. But "this does not feel the case with the latest increase," Morgan Stanley said, which explained that it "can entirely be attributed to hedge funds covering short positions".

Shorts in individual stocks had increased, even though hedge funds generally were buyers of North American equities, Morgan Stanley said. (Reporting by Nell Mackenzie; Editing by Amanda Cooper and Jan Harvey)