* Canadian dollar at C$1.2662 or 78.98 U.S. cents * Bond prices higher across the maturity curve By Solarina Ho TORONTO, March 20 (Reuters) - The Canadian dollar strengthened against its U.S. counterpart on Friday, as a sell-off in the U.S. dollar outweighed weaker-than-forecast domestic retail sales for January, which had initially dragged on the currency.
Retail sales fell for a second month, down 1.7 percent to C$41.46 billion, as gasoline sales posted the biggest monthly drop since November 2008 and consumers spent less on new cars. Sales fell in 7 of 11 subsectors, representing 83 percent of retail trade.
"The retail sales miss ... isn't surprising considering that the Bank of Canada had provided guidance that Q1 data was going to be weak," said Brad Schruder, director of foreign exchange at BMO Capital Markets.
Inflation data for February was unchanged from January, holding at 1 percent as cheap gasoline prices continued to weigh on the index.
Schruder said the data likely gives the Bank of Canada confidence about their projections, adding there was little momentum to break out of existing trading ranges based on Friday's numbers.
The Canadian dollar was trading at C$1.2637 against the U.S. dollar, or 79.13 U.S. cents at around 9:28 a.m. (1328 GMT), nearly a cent stronger than Thursday's Bank of Canada close at C$1.2726, or 78.58 U.S. cents.
Shortly after the data, the loonie had touched C$1.2724, or 78.59 U.S. cents, the weakest level of the session.
"The market is going back to watching what's happening in euro/dollar and dollar/yen," said Schruder, adding the market was "looking for directional cues there as to whether or not all the froth that was in the buck ahead of the FOMC is indeed now gone or if there is still a little bit more to come before U.S. dollar appreciation across the board takes hold again." Canadian government bond prices were higher across the maturity curve, with the two-year adding 4 Canadian cents to yield 0.454 percent and the benchmark 10-year rising 20 Canadian cents to yield 1.294 percent.
(Additional reporting by Allison Martell; Editing by Bernadette Baum)