CANADA FX DEBT-Strong Canada inflation sends C$ to session high

* C$ hits session high of C$0.9941 vs US$, or $1.0059

* Canada Jan. inflation up more than expected

* Traders pare back bets of BoC rate cut

* Bond prices slip, underperform at short end

By Claire Sibonney

TORONTO, Feb 17 (Reuters) - The Canadian dollar firmed to a session high against the U.S. dollar on Friday after data showed inflation in January rose more than expected, dampening some market expectations of a rate cut by the Bank of Canada later this year.

The annual rate increased to 2.5 percent in January from 2.3 percent in December on higher prices for energy and transportation, Statistics Canada said.

The year-over-year increase was slightly greater than the 2.3 percent predicted by market operators, buoying the currency to C$0.9941 against the greenback, or $1.0059, from around C$0.9961, or $1.0039 immediately before the release.

“If anything this just reinforces that the next move in the overnight rate is up, I mean it’s not going to be for a while but at least in terms of what’s implied in terms of Bank of Canada pricing over the (overnight index swap) market, I think it’s just going to scale back on the easing bias,” said Mazen Issa, Canada macro strategist at TD Securities.

Overnight index swaps, which trade based on expectations for the central bank’s key policy rate, showed that after the data, traders reduced bets on a rate cut in the second half of 2012.

“We are not seeing aggressive pressures one way or the other, so it just confirms the Bank of Canada’s very neutral stance at this point,” said Mark Chandler, head of fixed income and currency strategy at RBC Capital Markets.

At 7:53 a.m. (1253 GMT), the Canadian dollar stood at C$0.9949 versus the U.S. dollar, or $1.0051, up from Thursday’s North American session close of C$0.9965 versus the U.S. dollar, or $1.0035.

The Canadian dollar was already faring slightly better heading into the inflation report, as global risk appetite was helped by hopes Greece will seal a long-awaited bailout deal next week.

Investors were expected to take more cues from U.S. inflation data at 8:30 a.m.

“Generally the currency’s been in a better mood recently because of the stronger global equity markets we’ve seen,” said Doug Porter, deputy chief economist at BMO Capital Markets.

“The knee jerk reaction (to the domestic inflation data) is going to be to push it slightly higher, but I don’t think it’s going to have a lasting impact on the currency.”

Canadian bond prices tracked U.S. Treasuries lower across the curve, but underperformed on the interest-rate sensitive short end.

Canada’s two-year bond retreated 3 Canadian cents to yield 1.091 percent. The 10-year bond dropped 24 Canadian cents to yield 2.057 percent.