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* Canadian dollar weakens as oil drops below $35
* Bonds lower on optimism bank bailouts will ease credit
By Jennifer Kwan
TORONTO, Jan 19 (Reuters) - The Canadian dollar weakened against the U.S. currency on Monday, as the price of oil fell on easing supply concerns and as the greenback got support from a sullen economic picture in Europe.
Canadian bond prices were lower across the board on optimism that recent international measures to prop up banks will ease credit conditions and help improve the global economic picture.
Trading was expected to be lackluster as U.S. markets were closed for the Martin Luther King holiday, analysts and strategists said.
At 10:23 a.m. (1523 GMT), the Canadian currency was at C$1.2562 to the U.S. dollar, or 79.61 U.S. cents, down from C$1.2480 to the U.S. dollar, or 80.13 U.S. cents, on Friday.
The commodity-linked Canadian dollar fell as the price of oil dropped to below $35 a barrel. Concerns over crude supplies eased on signs of a resolution in the gas dispute between Russia and Ukraine and on the ceasefire in Gaza. [ID:nSP387382].
Weakness in the Canadian currency was also fueled by firmness in the U.S. dollar, which was buoyed by safe-haven buying.
"Data out of Europe is still very negative," said Shane Enright, currency strategist CIBC World Markets. "If you look at underlying correlations right now, the U.S. dollar tends to do well in times of increasing risk aversion and that's what we're seeing right now."
Britain launched a second bank rescue plan on Monday and Royal Bank of Scotland (RBS.L) recorded the biggest loss in U.K. corporate history, while a cut in Spain's credit rating helped pressure the euro lower. [ID:nSP388466]
The Canadian currency's weakness comes as it logged its biggest weekly drop since late October, according to Thomson Reuters data.
Going forward, all eyes will be on the Bank of Canada rate decision on Tuesday, said Sal Guatieri, senior economist at BMO Capital Markets.
A Reuters poll released late last week predicted the Bank of Canada will cut rates by at least 50 basis points to combat the global slowdown, which the central bank said has pushed the country into recession.
As well, markets will also focus on the inauguration of President-elect Barack Obama, with expectations of further stimulus plans after he takes office.
Canadian government bond prices fell in part because of a broader trend of easing risk aversion on announcements of bank bailouts, said Mark Chandler, fixed income strategist at RBC Capital Markets.
"Anything that helps to ease credit tightness should help the economic outlook and growth," he said.
Typically, further support for the financial sector proves negative for bonds as investors are tempted to move back into riskier assets, added Chandler.
The two-year bond edged 11 Canadian cents lower to C$103.19 to yield 1.015 percent, while the 10-year bond dropped 75 Canadian cents to C$112.68 to yield 2.707 percent.
The 30-year bond fell C$1.25 to yield 3.605 percent. In the United States, the 30-year treasury yielded 2.9143 percent. (Additional reporting by Natalie Armstrong; editing by Rob Wilson)