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TORONTO (Reuters) - The Canadian dollar stumbled versus the U.S. currency on Tuesday as investors shunned risky assets, sparked by China's clampdown on lending and as Japan's credit rating was put in the spotlight.
China's central bank ordered banks that need to raise their reserve ratios to implement the change on Tuesday, banking sources said In recent weeks, China has moved to cool bank lending to curb inflation and forestall asset bubbles.
"The risk-aversion trade seems to be back in vogue. Markets are focusing on things that have arisen over the past couple of weeks, which include China continuing to cool down their skyrocketing economy," said John Curran, senior vice-president at CanadianForex.
"People are looking to them to lead the recovery. If they start to cut back, everyone else is going to have to cut back. If we cut back while we're just starting to get out it's going to dampen hopes and dampen the recovery."
Standard & Poor's added to the sour mood by warning it would cut Japan's credit rating unless it produced a credible plan to rein in its soaring debt.
"Put together, they can have a destabilizing impact on risk assets," said Millan Mulraine, economics strategist at TD Securities.
The Canadian dollar hugged a low of C$1.0692 to the U.S. dollar, or 93.53 U.S. cents, its weakest level since December 21. But it fought back to finish at C$1.0625 to the U.S. dollar, or 94.12 U.S. cents, down from Monday's close at C$1.0581 to the U.S. dollar, or 94.51 U.S. cents.
Aiding its move higher from its lowest level of the session were steady U.S. stocks -- typically a yardstick of risk appetite -- which were supported by data that showed U.S. consumer confidence rose for a third straight month.
But market watchers said the policy and political landscape would likely keep investors cautious this week, including news on whether U.S. Federal Reserve Chairman Ben Bernanke would win a U.S. Senate vote for a second term, as well as a rate announcement by the U.S. central bank on Wednesday.
Markets were also looking for guidance from U.S. President Barack Obama's State of the Union address on Wednesday.
The price for oil, a key Canadian export, dropped below $75 a barrel as the China developments and weak U.S. home prices data cast doubt over the pace of recovery.
Government bond prices were firmer across the board, as demand climbed on concern about a potentially slower growth picture spurred by China's latest move.
"We have a flight from risk assets to the safety of government bonds," said Mulraine.
The two-year bond was 3 Canadian cents higher at C$100.15 to yield 1.170 percent, while the 30-year bond rose 57 Canadian cents to C$117.07 to yield 3.971 percent.
Canadian bonds outperformed U.S. notes across the curve, with the Canadian two-year bond 36.3 basis points above the U.S. 2-year yield, compared with about 37 basis points in the previous session.
Editing by Rob Wilson