United States one dollar bills are seen on a light table at the Bureau of Engraving and Printing in Washington in this November 14, 2014, file photo.
United States one dollar bills are seen on a light table at the Bureau of Engraving and Printing in Washington in this November 14, 2014, file photo. Reuters / Gary Cameron

The dollar held near its overnight 20-year peak on Wednesday ahead of the outcome of the Federal Reserve policy meeting at which markets are pricing in an outsized 75 basis point interest rate hike as policymakers try to rein in rampant inflation.

The dollar index, which tracks its performance against six peers, was at 105.35 having hit 105.65 on Tuesday, its strongest since late 2002.

Sterling was at $1.2010 after slumping to a 15-month low versus the dollar at $1.1934 the previous day, not helped by the possibility of a new referendum on Scottish independence. The euro was at $1.0428 just above its overnight one-month low. [GBP/]

Market pricing indicates a 95% chance of a 75 basis point rate hike at the Fed's meeting which concludes later on Wednesday, according to the CME's Fedwatch tool, up from only 3.9% a week ago, though down a fraction from over 99% earlier in the day.

The sharp pick up in expectations followed media reports, first by the Wall Street Journal, that a bigger rate increase was on the cards after data released last week showed the U.S. consumer price index surged 8.6% in the 12 months to May, the largest year-on-year increase in four decades.

The U.S. dollar had already been gaining ground in the past few months thanks to the Fed raising rates ahead of most other major central banks, and has been given another leg up in recent weeks as investors seek safe havens fearing the economic impact of rapidly tightening financial conditions.

But with such a large interest rate increase already expected, the dollar may struggle to gain further after the Fed's decision.

"Given current aggressive market pricing, there is a risk the (Federal Open Market Committee)is deemed 'not hawkish enough', pulling down U.S. interest rates and the USD modestly after the meeting," said CBA analysts in a morning note.

"In our view, it will take more than a 75bp hike tomorrow, or a nod to a 100bp hike for the FOMC's July meeting, to push the USD up significantly after the FOMC meeting."

Higher U.S. rates versus rock bottom Japanese yields have been weighing on the yen, which hit a fresh 24-year low of 135.58 per dollar in early trade, before recovering to 135.05.

Expectations for higher rates have also hurt risk friendly assets such as tech stocks, while in currency markets, the Australian dollar, often seen as a proxy for risk appetite, is at $0.6898 edging up 0.43% on Wednesday from the previous day's one-month low.

The Aussie is down 7.9% so far this quarter, which would be its worst quarter since the first three months of 2020 when the COVID-19 pandemic hit.

The New Zealand dollar was at $0.6221 just off its two-year low of $0.6197 hit overnight.

Bitcoin, another risk friendly asset class, was down 4% to $21,200. It hit an 18-month low of $20,800 on Tuesday, also hurt by major crypto lender Celsius Network's freezing withdrawals earlier this week.