CANADA FX DEBT-C$ rallies on BoC's surprise tone on rates

Tue May 31, 2011 4:57pm EDT
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   * C$ ends up at C$0.9686 vs US$, or $1.0324
 * Bond prices extend losses across the curve
 * BoC holds at 1 pct; signals rates will eventually rise
 (Updates to close, adds details, commentary)
 By Claire Sibonney
 TORONTO, May 31 (Reuters) - Canada's dollar shot to its
highest level against the U.S. currency in more than a week on
Tuesday, while and bond prices retreated, after the Bank of
Canada surprised investors with some hawkish talk in its policy
 But the rally cooled a bit by the end of the session as the
market came to terms with possibly having to wait a few more
months for rate increases to resume, and as worrisome U.S.
economic data cast a shadow over Canada's growth prospects.
 The central bank kept its key interest rate unchanged at 1
percent but seemed to convince the market that it will have to
lift borrowing costs "eventually" if economic growth continues.
  After the announcement, the currency CAD=D4 climbed as
high as C$0.9653 to the U.S. dollar, or $1.0359, up from
C$0.9723 to the U.S. dollar, or $1.0285, immediately before the
scheduled release. It was the Canadian dollar's strongest level
since May 20.
 "It certainly was the key driver in the rally. We were with
most other currencies in a risk-on tone earlier on and when the
Bank of Canada came out and clearly indicated an upward bias to
rates in Canada, that certainly had a distinct impact on the
Canadian dollar," said David Watt, senior fixed income and
currency strategist at RBC Capital Markets.
 "It faded through the rest of the day as the market read
the statement and saw that the Bank of Canada isn't pounding on
the table calling for a rate hike right now, but eventually,"
he adding, noting weak U.S. economic data didn't help.
 A slew of U.S. reports showing a double-dip in home prices,
pessimistic consumers and a slowdown in regional manufacturing
raised concerns that the U.S. economy's soft patch could become
protracted. [ID:nN31289567]
 The Canadian dollar CAD=D4 closed the North American
session at C$0.9686 to the U.S. dollar, or $1.0324, up from
C$0.9771 to the U.S. dollar, or $1.0234, at Monday's close.
 The move finally pushed the currency out of its tight
C$0.9735-C$0.9817 range in the last six sessions.
 The Bank of Canada is expected to resume raising interest
rates in September, according to a Reuters poll of primary
dealers conducted after the announcement. [CA/POLL]
 Overnight index swaps, which trade based on expectations
for the key central bank policy rate, also showed investors
slightly reducing the likelihood of a rate hike in July, but
increasing the odds of tightening in September, October and
December. BOCWATCH
 "I think the bank was uncomfortable with the market
starting to assume that it was going to wait forever to begin
hiking and with the resulting impact on mortgage rates, which
have been falling," said Avery Shenfeld, chief economist at
 Notably for Canadian-dollar bulls, the currency ended
stronger than its 100-day moving average of C$0.9753.
 Watt said the 50-day moving average around C$0.9648 was the
next near-term resistance level for the Canadian dollar after
stopping just short of that mark in its jump on Tuesday.
 The currency was already on firmer footing heading into the
Bank of Canada statement as global risk sentiment was lifted by
a risk-on tone in the market on optimism over an aid package to
deal with Greece's debt crisis. [MKTS/GLOB] [ID:nN3180975]
 Canadian bond prices ended lower as investors were caught
off guard by unexpectedly hawkish language in the Bank of
Canada's policy statement.
 They cut some losses, but still underperfomed rising U.S.
Treasuries after disappointing U.S. data overshadowed optimism
for an easing of the euro zone debt crisis. [US/]
 Canada's two-year bond CA2YT=RR was down 16 Canadian
cents to yield 1.590 percent, while the 10-year bond
CA10YT=RR dropped 10 Canadian cents to yield 3.075 percent.
 (Reporting by Claire Sibonney; editing by Rob Wilson)