Thanks for your feedback!
Development version works perfectly, even tried other alternate characters in folder names and it read those as well.
Here are the other ones I tried to be thorough.
U+00C0 - D6
U+00D8 - F6
U+00F8 - FF
I am unable to direct WinSCP to key files contained in folders with the character "ø" (U+00F8) in it's name. It immediately changes it to "o" (U+006F) and thus rendering the key file unreachable as that directory doesn't exist.
A work around would be to rename my folders but I would like to know if I can get WinSCP to read folders with alternate character sets.
Using Windows 7 Ultimate SP1
English + Bokmål (Norwegian) languages installed