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Tuesday July 10, 2007 - 21:18:54 GMT
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Forex News - Canadian dollar lower, bonds up after rate hike

Canadian dollar lower, bonds up after rate hike
Tue Jul 10, 2007 4:57PM EDT

By Frank Pingue

TORONTO, July 10 (Reuters) - The Canadian currency finished
lower against the U.S. dollar on Tuesday as the Bank of
Canada's decision to raise interest rates came with a statement
that put the timing of further hikes into question.

Bond prices took advantage of the central bank's statement,
which proved a bit less hawkish than the market had expected,
and posted their second straight day of gains.

The Canadian dollar closed at C$1.0515 to the U.S. dollar,
or 95.10 U.S. cents, down from C$1.0496 to the U.S. dollar, or
95.27 U.S. cents, at Monday's close.

The bank's widely expected rate hike to 4.50 percent put
its overnight rate a touch closer to the comparable U.S. rate
of 5.25 percent.

Higher interest rates generally boost a country's currency
as they lure investors seeking better short-term investment.
But the bank's first rate hike in over a year did not trigger
further Canadian dollar gains as the increase was already
priced into the market.

The drop in the Canadian dollar from the 30-year high it
touched earlier this week was triggered by the central bank's
statement, which suggested it may be content with just one more
rate increase given the lofty currency.

"It would appear from today's press release that the Bank
of Canada is blinking on the value of the currency," said Jack
Spitz, director of foreign exchange at National Bank Financial.
"And if that dampens some of the rate expectations that are out
there then that is going to be somewhat negative for the
Canadian dollar certainly in the short term."

Heading into the bank's rate announcement, the majority of
Canada's primary dealers had said in a recent Reuters poll that
they expected another 25 basis point rate hike in September, to
4.75 percent.

But the Bank of Canada altered language from its May
statement, doing away with suggestions about near-term rate
hikes for talk about the need for a "modest" increase, which
some market participants suggest could mean a pause is

The market will now look to the bank's monetary policy
report update on Thursday, but no surprises are expected as
recent MPRs have been consistent with the original statement.

The Canadian dollar fell to C$1.0542 to the U.S. dollar, or
94.86 U.S. cents, immediately after the Bank of Canada's
statement but managed to recoup the bulk of its losses as the
U.S. dollar buckled under pressure from concerns about the
deteriorating U.S. subprime mortgage market.

"The Canadian dollar didn't necessarily suffer as badly as
market pricing would initially have had it, given the fact that
the Bank of Canada was not as hawkish as had been previously
discounted into the price," said Spitz.

"What's really held the currency ... is the fact that the
U.S. dollar itself has been under relatively severe pressure."


Canadian bond prices received an early boost from the Bank
of Canada statement, which did not sound as hawkish a tone as
the market had anticipated.

Later in the session the domestic bond market followed the
bigger U.S. treasuries market higher due to concerns about
subprime mortgage debt in the United States.

"Earlier on it was kind of a made-in-Canada type of story,"
said Carlos Leitao, chief economist at Laurentian Bank of
Canada in Montreal. "But then as the day progressed ... it
became more of an international story with the Canadian market
following what the other markets were going through."

Leitao said he was surprised at the rise in bond prices
given that most central banks outside North America are still
in a tightening mode. But given the week-long selloff last
week, dealers took advantage of cheap prices.

Domestic data that showed Canadian housing starts fell less
than expected in June had no major impact on bond prices.

The two-year bond rose 19 Canadian cents to C$98.47 to
yield 4.604 percent, while the 10-year bond jumped 71 Canadian
cents to C$95.88 to yield 4.571 percent.

The yield spread between the two-year and 10-year bond
moved to -3.5 basis points from -4.0 at the previous close.

The 30-year bond rose C$1.40 to C$118.85 to yield 4.508
percent. In the United States, the 30-year treasury yielded
5.119 percent.

The three-month when-issued T-bill yielded 4.51 percent,
from 4.48 percent at the previous close.
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