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TORONTO (Reuters) - The Canadian dollar rose to its highest point in two weeks against the U.S. dollar on Thursday, after gas prices powered the annual inflation rate higher than expected, firming views the Bank of Canada will not cut interest rates further.
Domestic bond prices fell on the interest rate outlook.
At 9:14 a.m. EDT the Canadian dollar was at C$1.0118 to the U.S. dollar, or 98.83 U.S. cents, up from C$1.0181 to the U.S. dollar, or 98.22 U.S. cents, at Wednesday's close.
The currency rose 0.6 percent, to its highest point since June 4, after the inflation data. Inflation jumped 2.2 percent in May, from a 1.7 percent rise in April, on sharply higher gasoline prices. Analysts had, on average, expected a year-on-year inflation rate of 1.9 percent.
"It makes the risk of a Canadian (interest rate) hike that much greater," said Adam Cole, head currency strategist at RBC Capital Markets in London.
The Bank of Canada held interest rates steady last week, confounding market expectations for a 25 basis point cut, as it shifted its focus to inflation from worries about growth.
The market will now look to a speech late Thursday by Bank of Canada Governor Mark Carney in Calgary, on "Capitalizing on the Commodity Boom: The Role of Monetary Policy" for more clues to the central bank's thinking.
RBC's Cole said the rising inflation rate may well color the Bank of Canada's attitude to the exchange rate.
"There is a growing expectation that the central bank might be more accommodating of currency strength once again. With oil at these levels and some growing signs of domestic inflation picking up, currency strength starts to look like a good thing rather than a bad thing," he said.
"If they signal that they are accommodative of currency strength, the market will most likely oblige."
Canadian bond prices fell, with the CPI report being the main driver for Canada, but not the only one. U.S. bonds sold off as well.
"Maybe people are starting to get a little more distant to the frightening revelation that perhaps central banks are a little bit reluctant to hike (interest rates) sharply in the near term," said Eric Lascelles, chief economics and rates specialist at TD Securities.
"The notable thing would be that Canadian bonds are underperforming the U.S. on that inflation report."
Other domestic data showed Canadian wholesale trade jumped by 1.4 percent in April from March on higher demand for personal goods as well as machinery and electronic equipment.
Analysts had, on average, forecast a 0.6 percent month-on-month increase. Statistics Canada revised March's gain to 0.7 percent from an initial 0.6 percent.
The overnight Canadian Libor rate was at 3.0300 percent, up from 2.9800 percent on Wednesday.
Wednesday's CORRA rate was 2.9725 percent, down from 2.9896 percent on Tuesday. The Bank of Canada publishes the previous day's rate around 9 a.m. daily.
The two-year bond fell 20 Canadian cents to C$100.72 to yield 3.362 percent. The 10-year bond slid 26 Canadian cents to C$101.10 to yield 3.853 percent.
The yield spread between the two-year and 10-year bond was 49.1 basis points, down from 56.1 at the previous close.
The 30-year bond lost 30 Canadian cents to C$113.70 for a yield of 4.179 percent. In the United States, the 30-year treasury yielded 4.743 percent.
The three-month when-issued T-bill yielded 2.72 percent, up from 2.67 percent at the previous close.
Editing by Janet Guttsman