The US dollar held below three and a half month highs today as investors awaited the outcome of a Federal Reserve meeting for indications on the bank's future interest rate path. 

The Fed was viewed as unlikely to raise rates today.

But market participants will be watching for indications of a rate hike next month, as well as whether the Fed changes its language on inflation to recognise increasing price pressures. 

The Fed may be reluctant to increase market expectations of further tightening until it sees more data, however. Markets are currently pricing in an additional two rate hikes this year.

Analysts said that some of today's trading was likely market participants taking advantage of yesterday's moves to buy currencies at cheaper levels, or to exit long dollar positions, after much of Asia and Europe returned from the May Day holiday.

Growing doubts about when the European Central Bank will normalise its monetary policy has hurt the euro against the dollar in recent weeks. 

The dollar was trading back below $1.20 against the euro at one stage yesterday.

"The future path for the euro-dollar will depend a lot on this evening's Federal Open Market Committee (FOMC) meeting where a rate increase is not expected," commented Garret Grogan, Global Head of Trading Bank of Ireland Global Markets.

Mr Grogan said that markets will be looking for a more hawkish FOMC statement after this month's uptick in US inflation, bringing it to just below target.

"Given these higher expectations, today's FOMC meeting also runs the risk of disappointing markets, which we think could stymie any further gains for the dollar as recent euro headwinds are also expected to fade in coming weeks," he added.

Meanwhile, the pound gained after data showed that UK construction activity rebounded faster than expected last month after succumbing to snow in March.

However, the upturn did little to alter the view of investors that the Bank of England will leave interest rates unchanged next week. 

Investors are also focused on Friday's US employment report for April for further indications of the strength of the economy and inflation pressures. 

US private-sector employers hired 204,000 workers in April, the smallest monthly increase since November, the ADP National Employment Report showed today.