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TORONTO (Reuters) - The Canadian dollar spiked to 13-month highs against its U.S. counterpart on Tuesday, as the market priced in expectations the U.S. Federal Reserve would pump additional money into its lackluster economy this week.
The currency did see a modest dip following government data that showed Canada had its biggest trade deficit on record in July with exports and imports falling in an unexpectedly dismal performance.
In the United States, disappointing employment data last Friday heightened the probability the U.S. central bank will launch a third round of stimulus, a move that would put pressure on the greenback against currencies like Canada's. The Fed kicks off a two-day policy meeting on Wednesday.
"The markets may be priced a little bit rich relative to what we might get. We seemed to have priced in an awful lot of Fed (quantitative easing)," said Shaun Osborne, chief currency strategist at TD Securities.
"I do hope we get something, because it'd be quite a messy reaction if it's an 'on hold' kind of message from the Fed ... I think there's potentially a bit of a split here between what the markets might get and what the markets are priced for."
The currency finished at C$0.9732 to the U.S. dollar, or $1.0275 versus Monday's North American session close at C$0.9775, or $1.0230.
Earlier in the session it hit C$0.9713, or $1.0295, its strongest level since August 4, 2011. The Canadian dollar has rallied about 5 percent this year, making it one of the best performing major currencies.
If Canada's dollar breaks the C$0.97 mark, some think the next major resistance level is C$0.9407, hit in July 2011.
"On the longer term charts there is nothing in terms of obvious support points, until we get back to the low C$0.94's, if we do crack C$0.97. It is quite an important level psychologically for the markets," said Osborne.
Also bolstering the Canadian dollar's recent surge in strength were last week's forecast-beating domestic jobs numbers - expected to reinforce the Bank of Canada's already hawkish stance - and the announcement of a European Central Bank bond-buying plan aimed at helping the region's ongoing debt crisis.
"The market is comfortable from both a technical and fundamental perspective to push the Canadian dollar higher, and in the absence of any cautionary talk from the Bank of Canada or the finance minister it looks like it's going to continue to trend that way," said Jack Spitz, managing director of foreign exchange at National Bank Financial.
Still, Osborne noted that traders largely "glossed over" the poor domestic trade numbers.
"For a small open economy that relies quite heavily on trade, these numbers are not particularly constructive, and might suggest the Canadian dollar is somewhat over valued," he said.
Canadian government bond prices fell across the curve, with the two-year bond slipping 2.5 Canadian cents to yield 1.174 percent and the benchmark 10-year bond falling 26 Canadian cents, yielding 1.854 percent.
Editing by Jeffrey Hodgson