* Canadian dollar closes at 93.58 U.S. cents
* Bonds fall at short end of curve
* Market prices in probability of June 1 rate hike
By Claire Sibonney
TORONTO, May 26 (Reuters) - The Canadian dollar climbed against the U.S. currency on Wednesday as investors piled back into riskier assets, including stocks and oil, but it pared gains late in the day as optimism about the global economy waned.
The Canadian dollar jumped more than a cent to hit a session high of C$1.0580, or 94.52 cents, early in the day as North American equities rallied and the price of oil leaped over $71 a barrel, its biggest gain in three months. [.N] [.TO] [O/R]
Adding impetus was a newspaper report that said the Australian government is planning to dampen the impact of its planned resources tax by lifting the threshold at which it would kick in. That would be good news for mining shares and commodity-linked currencies such as Canada's. [ID:nLDE64P228]
But the Canadian dollar weakened as the day progressed as stocks reversed course after the Financial Times reported China was reviewing its euro-zone debt holdings, which brought European debt jitters back to the fore. [ID:nWNA2135].
"It was higher ... when the news came out about Australia rethinking its mining tax, Canada rallied quite aggressively but really it's been moving hand in hand with equities generally," said Firas Askari, head of foreign exchange trading at BMO Capital Markets.
The Canadian dollar closed the North American session at C$1.0686 to the U.S. dollar, or 93.58 U.S. cents, up from Tuesday's close of C$1.0700 to the U.S. dollar, or 93.46 U.S. cents.
The Canadian dollar did better on the crosses, Askari said. It held near multi-year highs against the euro, rising as high as C$1.2958, or 77.17 euro cents.
On Tuesday, the Canadian dollar fell to its lowest mark in almost seven months in a broad global selloff of riskier assets amid growing concern about Europe's debt crisis and the prospect of a Korean military conflict.
In a note to clients on Wednesday, RBC Capital Markets' chief technical strategist, George Davis, said the currency had to break C$1.0525 to show the weakening trend is losing momentum.
Recent volatility afflicting financial markets has spurred debate whether the Bank of Canada will start raising interest rates on June 1, its next scheduled policy setting date.
"The recovering risk appetite keeps the door open to a Bank of Canada rate hike next week, that's supportive of the Canadian dollar," said Fergal Smith, managing market strategist at Action Economics.
The expectations of a central bank rate increase, reflected
in yields on overnight index swaps, are tilted slightly toward
a 25 basis point hike in Canadian interest rates next week.
BONDS LOSE AT SHORT END
Canadian bonds mostly fell, tracking U.S. Treasuries, which were weighed down as renewed risk appetite and strength in stocks eroded the safe-haven appeal of government debt. [US/]
The two-year government bond
However, Canada's auction of 30-year real return bonds met with tamer demand than usual as investors, fearing Europe's debt crisis will dampen global growth, shied away from lower-yielding but inflation-protected government debt. [ID:nN26213207]
With a rate hike still being priced in near term, Canadian bonds lagged U.S. Treasuries at the short end of the curve, but outperformed at the long end.
Bond prices, particularly for shorter-term issues, tend to fall when interest rates go up as their fixed coupon payments seem less lucrative than rising yields on other investments.
"In periods of risk aversion, the front of the Canadian curve has outperformed because the market has been backing out of Canadian rate hikes," Smith said. "We've had a bit of an unwind of the flight to quality today."
The Canadian 10-year bond was 6.7 basis points above the U.S. 10-year yield, compared with 9.5 basis points above on Tuesday. (Reporting by Claire Sibonney; editing by Peter Galloway)