MUMBAI, Sept 21 (Reuters) - The Indian rupee is expected to trade in a narrow range this week, supported by portfolio inflows and central bank intervention, though strong importer hedging and elevated oil prices amid Middle East conflict may cap gains.
Bond yields may edge higher as investors focus on the Reserve Bank of India's liquidity withdrawal.
The rupee closed at 95.8725 per dollar on Friday, down 0.3% for the week.
Investors will closely watch developments in the Middle East and their impact on oil prices and global inflation.
Higher oil prices widen India's import bill and weigh on the rupee, while equity-related inflows may offer limited support amid steady importer dollar demand, traders said.
Traders expect the rupee to trade between 95.30 and 96.00 this week. There is "decent risk-reward to initiating shorts (on USD/INR) near 96," a trader at a state-run lender said.
Meanwhile, remarks from Federal Reserve policymakers will be in focus after the U.S. central bank delivered its first hike in three years last week. Signs of further tightening later could boost the dollar.
"We now expect the FOMC to deliver a second 25bp hike in October, a change from our previous expectation that September would be the only hike," Goldman Sachs analysts said in a note.
BONDS
Indian government bonds are likely to face further selling pressure towards the end of the fiscal first half as bets on an RBI rate hike grow and the central bank continues to drain surplus liquidity.
"Rate hike restores some credibility in Fed's willingness and ability to keep long-term inflation expectations in check... RBI is expected to conduct a reluctant rate hike in October," said Sandeep Bagla, CEO, Trust Mutual Fund.
The benchmark 10-year bond yield posted a fifth consecutive weekly rise, after ending at 7.0686% on Friday, up 5 basis points for the week, adding to around 26 bps of jump in the previous four weeks starting August 17.
Traders expect the benchmark yield to move into the 7.00% to 7.12% range, focusing on U.S. yields, oil prices, and any further steps by the central bank to remove cash.
Last week, the RBI sold shorter-duration bonds worth 500 billion rupees ($5.21 billion), its first net sale through an auction since November 2017.
The central bank is scheduled to sell debt worth 250 billion rupees each later in the day and on next Monday, helping it withdraw cash from the banking system on a more durable basis.
India's banking system is flush with surplus after lenders raised a much larger-than-expected $127 billion under the RBI's special forex mobilisation scheme, pushing overnight rates below the monetary policy corridor floor.
"If liquidity continues to persistently suppress overnight rates below repo, a policy rate hike (in October) should not be ruled out," said Krishna Bhimavarapu, APAC economist at State Street Investment Management.
KEY INDICATORS: India ** August infrastructure data - September 21, Monday (5:00 p.m. IST) ** September HSBC manufacturing, services, and composite Flash PMI - September 23, Wednesday (10:30 a.m. IST)
U.S. ** September S&P Global manufacturing, services, and composite Flash PMI - September 23, Wednesday (6:30 p.m. IST) ** Initial weekly jobless claims for the week of September 19 - September 24, Thursday (6:00 p.m. IST)
** August new home sales - September 24, Thursday (6:00 p.m. IST)
** August durable goods - September 25, Friday (6:00 p.m. IST)
** September U-Mich sentiment final - September 25, Friday (7:30 p.m. IST)
($1 = 95.9300 Indian rupees)
Reporting by Dharamraj Dhutia and Jaspreet Kalra; Editing by Nivedita Bhattacharjee and Rashmi Aich
Source: Reuters