The rupee gained 18 paise to close at 81.56 (provisional) against the US dollar on Wednesday, driven by foreign inflows from bonds selling and overall weakness in crude oil prices.
However, a muted trend in domestic equities dented investor sentiments and capped the sharp gains in the rupee, traders said.
At the interbank foreign exchange market, the local unit opened at 81.73 and touched an intra-day high of 81.52 and a low of 81.82 against the greenback.
It finally ended at 81.56 (provisional), registering a rise of 18 paise over its previous close.
On Tuesday, the rupee settled at 81.74 against the US dollar.
"Indian Rupee appreciated on Wednesday extending gains of the previous day on foreign inflows from bonds selling...and overall weakness in crude oil prices," said Anuj Choudhary - Research Analyst at Sharekhan by BNP Paribas.
However, FII outflows and recovery in US Dollar capped sharp gains.
Choudhary further noted that the dollar gained as traders are adjusting their positions ahead of US CPI inflation data.
The dollar also gained on safe-haven appeal as the World Bank trimmed the 2023 global GDP forecast to 1.7 per cent citing the Russia-Ukraine conflict, inflation and higher interest rates as the main reasons.
"We expect the Rupee to trade with a positive bias amid risk-on sentiments and weak crude oil prices. However, sustained outflows by foreign investors may cap sharp gains. Investors may remain cautious ahead of inflation data from the US and India on Thursday. USD/INR spot price is expected to trade in a range of Rs 81 to Rs 82," Choudhary said.
The dollar index, which gauges the greenback's strength against a basket of six currencies, advanced 0.06 per cent to 103.30.
Global oil benchmark Brent crude futures rose 0.42 per cent to USD 80.44 per barrel.
On the domestic equity market front, the 30-share BSE Sensex declined 9.98 points or 0.02 per cent to end at 60,105.50, while the broader NSE Nifty fell 18.45 points or 0.1 per cent to 17,895.70.
Foreign Institutional Investors (FIIs) were net sellers in the capital market on Tuesday as they offloaded shares worth Rs 2,109.34 crore, according to exchange data.