Pharma, banking and power shares led the rise, amid positive cues from global markets as Europe opened higher.
Continued fall in global crude oil prices, which will help India cut current account deficit and ease fuel price inflation further, also buoyed sentiments, brokers said.
The 30-share BSE Sensex index, after opening firm at 26,788.73, improved to touch day's high of 26,907.14. It settled with a net gain of 127.92 points, or 0.48 per cent, at over one-month high of 26,880.82.
Yesterday, Sensex shed 98.15 points on profit-booking.
The 50-share NSE Nifty recovered 35.90 points, or 0.45 per cent, to close at 8,027.60 after shuttling between 8,037.80 and 7,995.05. It had shed 22.85 points yesterday.
Recovery was supported by gains in Sun Pharma which climbed 4.64 per cent. Cipla surged 3.31 per cent, SBI rose 2.67 per cent, ICICI Bank jumped 1.76 per cent and Tata Power gained 2.48 per cent among 17 Sensex gainers.
Pharma stocks gained after Ranbaxy, which is in the process of a USD 4 billion merger with Sun Pharma, reported consolidated net profit of Rs 477.75 crore for September quarter, pushing its share price by over 6 per cent.
Other bluechip gainers which helped indices to rebound included GAIL, BHEL, M&M, HDFC, TCS, ITC, L&T, and Coal India.
"Pressure is mounting on the Reserve Bank to cut rates at its December meeting...Jaitley's recent call to lower rates to encourage construction activity has revived expectations for rate cuts...," Singaporean brokerage DBS said in a note.
Elsewhere in Asia, markets ended mostly mixed as investors remained cautious ahead of the US Federal Reserve two-day monetary policy meet which starts later in the day.
Sectorwise, the BSE Healthcare index gained the most by surging 1.42 per cent, followed by Power 0.96 per cent, Bankex 0.66 per cent, Auto 0.33 per cent and Consumer Durables 0.75 per cent. On the other hand, BSE Oil & gas fell 0.23 per cent, FMCG by 0.12 per cent and Metal index by 0.03 per cent.