* U.S. bank bailout plan sparks C$ selloff
* Bonds end higher, boosted by safe haven buying
* Bank of Canada defends forecasts, sees rate cut room (Recasts with comments and closing levels)
By Frank Pingue
TORONTO, Feb 10 (Reuters) - Canada’s currency fell 2.4 percent on Tuesday as demand for risky assets diminished after the release of a U.S. government bank bailout plan that was not considered enough to shore up the financial sector.
The bailout plan, which overshadowed testimony by Bank of Canada Governor Mark Carney, rattled North American equities and the Canadian dollar, with investors rushing into the U.S. dollar and Japanese yen.
The low-yielding U.S. dollar and yen are typically viewed as safe-haven currencies. When stocks drop and the risk barometer climbs, investors often repatriate funds and close out risky trades funded by these two currencies.
The selloff came immediately after U.S. Treasury Secretary Timothy Geithner unveiled a plan that was considered by many to be too vague and not enough to contain a deepening recession. [ID:nN102559]
“It’s really a risk aversion story again and the currencies which have typically benefited over the last week or so are the ones that are being hurt today,” said Amarjit Sahota, chief currency strategist at HIFX Plc in San Francisco. “They are the largest movers on the day and I think it’s directly related to the lack of clarity from Geithner this morning.”
The U.S. government said it will cleanse up to $500 billion in spoiled assets from banks’ books and support $1 trillion in new lending. [ID:nLA744901]
But the massive plan did not offer specifics that investors had been hoping for and could not reinvigorate North American equity markets, ending a three-session streak of gains for Canadian dollar.
The Canadian dollar closed at C$1.2462 to the U.S. dollar, or 80.24 U.S. cents, down from C$1.2164 to the U.S. dollar, or 82.21 U.S. cents, at Monday’s close.
Late in the session the Canadian currency had fallen as low as C$1.2494 to the U.S. dollar, or 80.04 U.S. cents, its lowest level since Feb. 6.
The currency traded in a narrow range as Carney said during testimony before a parliamentary finance committee that the central bank has considerable flexibility to deal with the economy, including room to cut interest rates. [ID:nN10319579]
His comments did little to alter expectations that the bank will cut its key interest rate below the current 50-year low of 1.00 percent on March 3.
“The markets are pricing in pretty much another 50 (basis) point cut in March and that will keep the Canadian dollar on the defensive in the interim period,” said Derek Holt, an economist at Scotia Capital.
Canadian bond prices finished higher but the gains were muted on shorter-dated bonds given the comments from Carney which were considered slightly hawkish by some market participants.
During his remarks, the central bank governor defended his highly questioned forecast for Canada’s quick recovery from the ongoing recession to growth of 3.8 percent next year.
“He had a laundry list of factors that go to support the bank’s view of 3.8 percent for next year,” said Mark Chandler, fixed-income strategist at RBC Capital Markets. “He also stated that if anything he’s dampening the results of what the models are telling him about the strength next year.”
Still, with North American equities rattled by the news of the U.S. bank bailout plan, investors flocked to the security offered by government debt.
The interest-rate sensitive two-year bond rose 4 Canadian cents to C$102.82 to yield 1.162 percent, while the 10-year bond increased 75 Canadian cents to C$110.15 to yield 2.991 percent.
The 30-year bond rallied C$1.40 to C$122.05 to yield 3.731 percent.
Canadian bonds underperformed U.S. Treasuries across much of the curve, with the Canadian 30-year bond yield about 23 basis points above its U.S. counterpart, up from about 15 basis points on Monday. (Editing by Jeffrey Hodgson)