The y gets lost in the unusual pronunciation of retourne. If the re part of retourne were more clearly pronounced, they y would become apparent. As it is, the y sounds like a garbled re.
Other sources pronounce the re and therefore it is possible to distinguish a sound between elle and retourne.
"y" in this context refers to "there". "y" can also mean it when it replaces "à + a noun" that is not a person such as with verbs that "need à" (which is not the case for this question, retourner does not require à).(http://french.about.com/od/grammar/a/preposition_a_3.htm).
I'm responding to a letter. I'm responding (to it). Je réponds à une lettre. J'y réponds. Wrong: Je réponds, Je la réponds, Je lui réponds.</pre>
Because "y" doesn't mean "it". See this article on the subject: http://french.about.com/od/grammar/a/pron_adverbial.htm
Here's a comparison of the common movement verbs: