12/28/2011 08:37 EST | Updated 02/27/2012 05:12 EST

Loonie up, traders take on more risk following successful Italian bond auctions

TORONTO - The Canadian dollar closed lower Wednesday, losing early momentum despite a pair of bond auctions that forced down the interest rate Italy pays on its debt — initially seen as a positive sign for the heavily indebted European government.

The loonie lost 0.32 of a cent to 97.64 cents US.

The currency had moved as high as 98.75 cents US after the Bank of Italy said Wednesday that the average yield on its €9-billion, six-month offering was 3.251 per cent, half the 6.504 per cent rate it had to pay at the equivalent auction last month. An auction of two-year bills, which raised €1.732 billion, also saw the yield fall to 4.853 per cent from 7.814 per cent last month.

But relief was short lived as analysts pointed out that the bigger test will come Thursday, when €8.5 billion in a variety of maturities will be up for sale.

And the yield on the country’s 10-year bond remained dangerously high, at 6.93 per cent. It had risen to seven per cent Tuesday, a level that is considered unsustainable.

Unlike Portugal, Ireland and Greece, Italy is considered too big to rescue with a financial bailout package and investors fear that if it is squeezed out of borrowing from markets, the euro won't survive.

Also, the European Central Bank said Wednesday that the continent’s banks parked a record US$590.72 billion overnight at the bank, surpassing the previous record set only Monday. Those figures indicate that banks still distrust the financial system and would rather hold money at low interest rates at the ECB rather than lend to each other.

The latest round of worry surrounding the eurozone's debt crisis pushed the euro as low as US$1.291, its weakest level on a closing basis since September 2010, down from US$1.3074 late Tuesday.

Trading volumes are very light, which contributed to volatile conditions.

Commodity prices were lower with the February oil contract on the New York Mercantile Exchange down $1.98 to US$99.36 a barrel after the U.S. warned Iran that it will not tolerate any disruption of traffic through the vital Straits of Hormuz at the mouth of the Persian Gulf, the passageway for one-sixth of the world's oil shipments.

Oil surged US$1.66 Tuesday after Iranian Vice-President Mohamed Reza Rahimi threatened that Iran would close the strait, cutting off oil exports, if the West imposes sanctions on Iranian oil shipments to punish Tehran for its nuclear program.

Also, a senior Saudi Arabian oil official said that Gulf states are ready to step in to offset any potential loss of exports from Iran, which is the world’s fourth-largest oil producer.

Metal prices also fell as the March copper contract in New York slipped four cents to US$3.37 a pound while the February gold contract lost $31.40 to US$1,564.10 an ounce.