Source: The Canadian Press

Canada’s dollar plunged more than a cent and a half Tuesday after traders turned to the U.S. dollar in a so-called flight to quality as fears intensified about a worsening European debt crisis.

The loonie dropped to 1.59 cents to close at 98.27 cents US on currency markets, just off its intraday low of 98.21 cents.

The Canadian currency’s drop and sliding stocks in Europe and North America reflected the worsening of Europe’s government debt crisis as Greece’s credit rating was downgraded to junk status and Portugal’s debt was lowered on fears the trouble could spread.

Canada’s dollar has been trading just above or below parity with the American currency in recent weeks based on the comparative strength of the Canadian economy and the prospects of higher interest rates in Canada, an attraction to global investors and money traders.

But Tuesday’s plunge in the loonie shows how financial turbulence can hurt even the world’s strongest currencies when investors rapidly shift billions of dollars into safe–havens like the American greenback.

As that flight to safety trend intensifies, traditionally strong currencies like the Canadian and Australian dollars, the euro and even the Japanese yen get caught in the crossfire and fall against the greenback.

So, a downgrade of Greece’s debt rating to junk status early Tuesday put downward pressure on the loonie and other currencies, as traders sold some of their holdings to buy American dollars.

David Watt, senior fixed income and currency strategist at RBC Capital Markets, said “the downgrades blew away any resilience that people had to holding onto risky (currency) positions, and it just caused profit taking.”

“We might be in a period of seeing an outbreak of risk aversion, but that’s not clear yet.”

Watt said the volatility may last a while yet until the picture is clear about the outlook for European debt crisis _ caused by heavy borrowing and sharply rising government deficits worsened by the recession.

“Is this just a particularly violent period of profit–taking and two days from now we get an announcement of an aid package and we retake a lot of this lost ground or is this an outbreak of what we saw in mid–January, which was a period of risk aversion that might last until the next month,” Watt said.

“Some of the risk indications that I look at don’t lead me to be confident that this is a shot–term thing. It looks like we might go through a notable correction.”

Standard & Poor’s downgrades of Greece’s and Portugal’s debt ratings fed into fears that the countries’ debt problems could spread to Italy, Spain and Britain, undermining Europe’s economy.

Both Greece and Portugal have imposed budget cuts against political resistance from unions at home. Markets have been skeptical that they can push through enough cuts, given political resistance, to put their finances in order.

In a statement Tuesday, the debt rating agency said that it is lowering its rating on Greece’s debt by several notches to double–B plus.

Debts rated below triple–B are considered too risky for investment purposes and have been nicknamed junk.

The rating agency warned that holders of Greek debt would have an average chance of between 30 to 50% of getting their money back in the event of a debt restructuring or default.

The downgrade to junk status deprives Greece of an investment–grade rating on its bonds, meaning it would pay higher costs to borrow if it taps debt markets again. The agency said Greece’s weak long–term growth prospects made it less credit–worthy.

`The Greek bond market is now in full scale meltdown,” said Jeremy Batstone–Carr, head of private client research at British stockbrokers Charles Stanley.

`The nightmare scenario from an investor stand point is that either Greece defaults, forcing investors to take a severe ‘haircut’ on their investments–loans, or the Greek authorities could honour the country’s debts and simply shut down all nonessential operations, markedly escalating the strife for the nation’s people.”

With files from The Associated Press

Canada’s dollar plunged more than a cent and a half today after traders turned to the U.S. dollar in a so–called flight to quality as fear intensified that the Greek debt crisis will spread.

The loonie dropped to 1.59 cents to close at 98.27 cents US on currency markets, just off its intraday low of 98.21 cents.

The Canadian currency’s drop and sliding stocks in Europe and North America reflect the worsening of Europe’s government debt crisis.