The rupee surged 20 paise to close at 74.38 against the US currency on Wednesday, propped up by foreign banks' dollar sales and fund inflows into domestic equities.
At the interbank forex market, the local unit opened at 74.54 against the greenback and witnessed an intra-day high of 74.30 and a low of 74.55.
It finally settled at 74.38, a rise of 20 paise over its previous close.
In the previous session, the rupee had tumbled 30 paise to close at 74.58.
"Rupee erased previous day's loss on stronger domestic equities and the weaker dollar index. Dollar selling on behalf of big corporates also added strength in rupee...," said Dilip Parmar, research analyst, HDFC Securities.
The market is also positioning for better dollar inflows this quarter amid big bang IPO plans, Parmar added.
Dollar index reversed gains taking cues from fall in US Treasury bond yields ahead of the Federal Open Market Committee (FOMC) meeting minutes.
"USD/INR is expected to trade lower in coming days and could find near term support around 74 before heading towards medium-term trend line support of 73.70 while on the higher side 74.70 becomes the resistance," Parmar noted.
On the domestic equity market front, the BSE Sensex ended 367.22 points or 0.61 per cent higher at 60,223.15, while the broader NSE Nifty jumped 120 points or 0.67 per cent to 17,925.25.
Meanwhile, the dollar index, which measures the greenback's strength against the basket of six currencies, fell 0.12 per cent to 96.14.
Brent crude futures, the global oil benchmark, was trading 0.05 per cent higher at USD 80.04 per barrel.
Foreign institutional investors were net buyers in the capital market on Tuesday, as they purchased shares worth Rs 1,273.86 crore, as per stock exchange data.
"The Indian rupee appreciated against the US Dollar this Wednesday, lifted by foreign banks dollar sales and fund inflows into local equities and on expected flows from offshore bond offerings," said Sriram Iyer, senior research analyst at Reliance Securities.
The currency also got support from strong domestic equities. So far this year, foreign investors have infused USD 482 million into Indian stocks.
The dollar index was weak this Wednesday afternoon trade in Asia as traders awaited the release of minutes from the Federal Reserve's December meeting.
"Since the start of this year, the USD-INR spot has been steady within a range. The volatility is still low but may pick up especially after tonight's FOMC minutes and Friday's US NFP data, for clues on the Fed's potential pace of the hikes. Any hint on the timing of the rate hike can appreciate the USD-INR spot," according to Emkay Global Financial Services.