(Recasts, adds analysts' reaction)

By Mark Felsenthal

WASHINGTON, Feb 26 (Reuters) - U.S. producer prices jumped a surprisingly sharp 1 percent in January, pushing the 12-month gain to a 26-year high, according to a report on Tuesday that led financial markets to trim bets of interest rate cuts.

The increase in the Labor Department's producer price index, a gauge of prices paid at the farm and factory gate, came in well above the 0.4 percent rise expected on Wall Street and offered the latest sign of percolating price pressures.

Core producer prices, which strip out volatile energy and food costs, climbed 0.4 percent, the sharpest increase since last February, the department said. Analysts had expected the core rate to edge up just 0.2 percent.

"There is clearly inflationary pressures in the pipeline," said David Powell, senior currency strategist at IDEAGlobal in New York. "It makes life difficult for the (Federal Reserve) in the midst of its rate-cutting campaign as it tries to stimulate a slowing U.S. economy."

Prices for U.S. government bonds and interest-rate futures fell, while the dollar pared losses and stocks opened down, as traders saw the data suggesting a less-aggressive posture by the Fed as it tries to combat the risk of recession.

Producer prices were up 7.4 percent from January of last year, the steepest climb since October 1981.

Energy prices rose 1.5 percent in January and were up 22.6 percent over the past 12 months. Gasoline prices gained 2.9 percent last month and 48.1 percent over the past year.