In the last six months, the yield on the 364-day treasury bill has risen by about 80 basis points to 7.80 percent and the spread between 1-year and 10-year government bonds has narrowed to about 25 basis points from about 120 basis points a year ago.
Provident funds had nearly 1.50 trillion rupees ($37 billion) invested in domestic markets at the last count in March 2006, and traders say they have increased their t-bill buying at auctions in the past few months.
Deven Padhye, a director with provident fund advisory firm Darashaw & Co., said he did not expect funds to buy the longer end aggressively until they saw interest rates touching a peak.
"Provident funds have gone excessively into short-term treasury bills, because they think the peak has not yet come," Padhye said. India's central bank has raised its key lending rate five times in under a year. The rate now stands at 7.75 percent, after the central bank left it steady at its last review in April, but many in the market expect one more increase by the end of July.