The rupee touched its lowest level in a week on Tuesday after falling for a third consecutive session as dollar demand from largely oil importers and broad dollar short-covering offset inflows tied to the gains in domestic shares.
The euro fell on uncertainty about when Spain will apply for a bailout, but losses were capped after European Central Bank President Mario Draghi reiterated its financial support for troubled euro zone states was unlimited within certain conditions.
Some traders speculated the Reserve Bank of India bought dollars in spot markets to prevent a one-way movement in the pair, but state-run banks who usually act on behalf of the central bank were not sure whether that had been the case.
"Importers have continued to buy as well as some ECB-related hedging has been seen at lower levels," said Rajeev Mahrotri, head of forex and debt trading at IndusInd Bank.
"53.50 is quite likely to be hit soon I think, but for now don't think the USD/INR goes higher than that. After that we should see range-bound rupee for a while," he added.
The partially convertible rupee closed at 52.72/73 per dollar versus its previous close of 52.64/65, after hitting a session low at 52.83, its lowest since October 1.
The pair moved in a wide band of 52.2250 to 52.83 during the session.
The rupee had strengthened for five straight weeks until Friday, gaining a total 7.1 percent on the back of India's slew of fiscal and economic reforms and stimulus measures from global central banks.
Gains in domestic shares helped limit the losses on Tuesday. Traders monitor equity markets, given the importance of foreign flows. Foreign institutional investors have bought a net $16.5 billion in Indian equities so far this year.
Investors are looking ahead at August industrial output data on Friday, which is expected to have risen a modest 1.1 percent, indicating continued weak economic conditions.
The International Monetary Fund cut India's 2012 growth forecast to 4.9 percent from 6.1 percent, and advised the central bank to keep monetary policy on hold until price pressures subside.
Heavy dollar selling in the offshore non-deliverable forwards market helped the spread between the spot and 1-month NDF shrink to 20 bps versus 34 bps on Monday, traders said.
The one-month non-deliverable offshore contract was trading at 52.88 while the three-month was at 53.35.
In the onshore forwards, the 1-month was quoted at a premium of 36 points, while the 3-month was at 90.75 points.
In the currency futures market, the most-traded near-month dollar/rupee contracts on the National Stock Exchange, the MCX-SX and the United Stock Exchange all close at around 52.7950 with a total traded volume of about $6 billion.