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* C$ hits overnight high of 86.60 U.S. cents
* Weak U.S. housing data eats away at C$'s gain
* Bond prices lower across the curve (Adds details)
By Frank Pingue
TORONTO, May 19 (Reuters) - The Canadian dollar was higher versus the greenback on Tuesday as an upbeat tone in Canadian equities gave a boost to the commodity-based currency, but it returned some of its overnight gains after weak housing U.S. data sapped risk appetite.
Canada's currency was dragged from its overnight high after data showed a steep drop in U.S. housing starts in April, which rekindled worries that the worst of the global financial crisis may not have passed. [ID:nN18349440]
The currency got support from a surge Toronto's key stock index at the market open as Canadian stocks played catch-up with a gain in U.S. equities on Monday, when Canadian markets were closed for a holiday.
"It's all the risk aversion theme, all equity markets, and I think that the FX markets in general will continue to derive their direction from stocks," said George Davis, chief technical strategist at RBC Capital Markets.
"But the mood has been spoiled a little bit by the housing starts data in the U.S. because they came out weaker than expected ... but if stocks are able to rally we should see (the U.S. dollar) sell off as risk aversion decreases."
At 9:50 a.m. (1350 GMT), the Canadian unit was at C$1.1583 to the U.S. dollar, or 86.33 U.S. cents, up from C$1.1791 to the U.S. dollar, or 84.81 U.S. cents, at Friday's close.
The Canadian dollar rallied as high as C$1.1548 to the U.S. dollar, or 86.60 U.S. cents, overnight, its highest level since May 12.
Canada's currency fell 2.5 percent last week and ended a string of nine straight weekly gains. But some experts have warned that just like its surge from a four-year low in early March, the Canadian dollar's drop last week may have been a touch overdone and could set it up for more gains.
BONDS PRICES SLIDE
Canadian bond prices were lower across the curve in a delayed reaction to Monday's activity, when the U.S. Treasury market fell on hopes that the recession was easing, which lessened the appetite for more secure government debt.
But moves were limited ahead of key Canadian consumer price index data due on Wednesday and the March retail sales report on Friday.
The benchmark two-year Canadian government bond was down 3 Canadian cents at C$100.29 to yield 1.107 percent, while the 10-year bond was off 41 Canadian cents at C$105.12 to yield 3.151 percent.
The 30-year bond slipped 80 Canadian cents to C$118.65 to yield 3.900 percent. (Editing by Peter Galloway)