Indian financial markets are seen choked by inflation worries this week but traders expect bonds to start firmer after the central bank governor said spiralling inflation was not due to demand pressures in the economy.
"If you look at the consumer price index, it's still around 3 percent and there is credit offtake going on," Reserve Bank of India (RBI) Governor Y.V.Reddy told reporters on Sunday.
"We have to analyse how this imported price shock gets transmitted on the demand side as well as on the supply side. At what point of the economic cycle you are in and then take a measured policy response," he added.
Equity fund managers said they would prefer playing safe in the short term, though were upbeat in the long term.
Adequate rains are crucial for Asia's fourth-biggest economy as about 60 percent of India's billion-plus population depend on farm sector to earn a living.
Indian shares fell more than 1 percent on Friday with the Bombay index finishing at 5,196.99 points. The benchmark 10-year bond yield rose 16 basis points after the government data showed that inflation spiked to a 3-1/2 year high of 7.51 percent in the week to July 24 from 6.52 percent a week earlier.
Analysts had estimated inflation to be at 6.70 percent.
Inflation has been steadily picking up pace in recent months because of rising fuel and commodity prices, which have raised input costs for manufacturers. Analysts say those rising costs could soon be passed on to consumers.
Fund managers are bullish on equities and they see strong demand for commodity, automobile, capital goods and technology stocks.
Bombay shares have dropped 11 percent so far this year. But with a revival of monsoon rains over the past week after an initial lull, and weather forecasts showing more downpour in the next two months, traders are looking for the market to improve.
Initial public offer from India's top software services exporter Tata Consultancy Services Ltd (TCS) was bid 7.7 times and raised $1.17 billion, making the nation's biggest ever IPO and Asia's second-biggest technology IPO this year.
Bond traders expect federal bond prices to open firm this week after India's central bank governor attributed the surge in inflation to higher costs for importing crude oil and commodities, adding demand pressures in the economy were still benign.