MUMBAI: Indian government bond yields turned lower after inching higher in early trades on Tuesday, likely led by purchases from foreign banks, even as inflation stayed above the central bank's target for eight straight months.

Foreign banks are buying bonds as focus shifts back to Indian notes likely being included in global indexes, traders said.

The benchmark 10-year government bond yield was at 7.1473% as of 0450 GMT. The yield rose to 7.1931% earlier in the day after ending at 7.1811% on Monday. It had risen five bps in last two sessions.

"Inflation at 7% is still not bothering the markets, as index inclusion theme continues to play out," said a trader with a private bank.

Investors have been on a buying spree over the last few weeks on bets of Indian government securities likely being included in global indexes.

Earlier this month, Morgan Stanley said it sees a "good chance" of JPMorgan including Indian notes in its emerging markets index. Goldman Sachs expects it to happen next year.

"Foreign banks were waiting on the sidelines, and 7.20% level is very attractive... so they have gone aggressive, especially for duration," a trader with a primary dealership said, pointing to the demand for 10- to 14-year bonds.

Meanwhile, India's annual retail inflation rate accelerated to 7% in August, snapping a three-month downward trend. The rate came in above both the 6.9% forecast in a Reuters poll of economists and July's 6.71% reading.

The higher inflation reading has prompted some brokerages to raise their calls for a third consecutive 50 basis-point rate hike later this month. Capital Economics and Barclays predict the RBI to hike repo rate by 50 bps this month.

The RBI has hiked key policy rate by 140 basis points in May-August.

Traders are also looking for cues from the U.S. inflation data due later in the day, which could guide the Federal Reserve policy decision due on Sep. 21. (Reporting by Dharamraj Lalit Dhutia Editing by)