TOKYO, July 28 (Reuters) - Japan's Nikkei share average fell on Friday ahead of a closely watched Bank of Japan policy announcement, with the Nikkei newspaper reporting the central bank could decide to allow the 10-year yield to rise above its policy ceiling under certain circumstances.

A stronger yen following the report weighed broadly on Japanese stocks, particularly automakers.

However, bank shares rallied on the prospect of a steeper yield curve, which would improve the outlook for profits from lending.

The Nikkei was 1.35% lower at 32,445.82 as of 1256 GMT, with 207 of its 225 components declining versus 17 that rose and one that was flat.

The broader Topix fell 0.92% to 2,273.91.

The BOJ policy announcement generally comes after the midday recess at 0230 GMT.

"There still remains uncertainty about the outcome of the BOJ meeting," following the Nikkei newspaper report, said Maki Sawada, a strategist at Nomura Securities.

If the decision is as the Nikkei article suggests, the yen is likely to strengthen further, putting more pressure for stock declines, she said.

Additionally, the acceleration of the domestic earnings season, with close to 200 companies reporting on Friday and a peak of close to 900 announcements on Aug. 10, means that from next week individual share movements should become more and more pronounced, Sawada said.

Banking was by far the best performing of the Tokyo Stock Exchange's 33 industry sectors on Friday, rising 0.92% and earlier reaching an eight-year high.

Insurers, which would also benefit from higher bond yields, rose 0.28%.

Dai-chi Life Holdings gained 2.54%, while Resona Holdings added 1.61%.

The Nikkei's best performer was food company Nisshin following favorable earnings.

Among automakers, Toyota Motor fell 1.55% and Nissan lost 2.53%. Toyota truck unit Hino Motors tumbled more than 10% to lead Nikkei decliners after its financial results disappointed. (Reporting by Kevin Buckland; Editing by Nivedita Bhattacharjee)