TREASURIES-US yields ease as core CPI cools

* Core CPI rose less than expected

* Tariff inflation impact eases

* Fed policy outlook unchanged

* Futures pricing in 66% odds of hike by December

By Karen Brettell

NEW YORK, June 10 (Reuters) - U.S. Treasury yields dipped on Wednesday after data showed core consumer price inflation eased more than economists had expected last month, while traders also kept a close eye on escalating tensions with Iran. The consumer price index rose 0.5% in May, putting the annual inflation rate at 4.2% - the highest level since April 2023 and above the 3.8% reading from April.

Stripping out volatile food and energy prices, the core CPI rose 0.2% for the month and 2.9% from a year ago - below the 0.3% monthly estimate and less than the 0.4% April increase.

"Some relief was expected in the core inflation number this morning and this report mostly delivered that relief," said Matt Bush, U.S. economist at Guggenheim Investments.

The data showed that the effects of tariffs on prices continued to fall while technology-related inflation eased. Services prices, however, remained elevated, with higher energy costs feeding through to airfares, Bush said.

Rental inflation also moderated, but less than some analysts had expected, indicating likely further progress in the months ahead.

"Some good news in the data, still some areas to be worried about," Bush said. "Overall, probably has not much bearing on the near-term path of Fed policy."

Fed funds futures traders are pricing in 66% odds of a Federal Reserve hike by December, little changed from Tuesday.

The 2-year note yield, which typically moves in step with Fed interest rate expectations, fell 0.4 basis points to 4.118%.

The yield on benchmark U.S. 10-year notes fell 0.5 basis points to 4.523%.

The yield curve between 2- and 10-year notes was little changed at 40 basis points.

Yields had risen earlier on Wednesday as hostilities between the United States and Iran rose, though they remained relatively contained on hopes that a resolution to the war will be reached. U.S. President Donald Trump said on Wednesday Iran had taken too long to negotiate a deal and would now "have to pay the price." Iran said it would reassess diplomatic engagement with the United States after overnight tit-for-tat strikes.

Traders will also watch a $39 billion auction of 10-year notes later on Wednesday for signs of how strong demand for longer-dated U.S. Treasuries remains. The debt suffered a sharp selloff last month.

The U.S. government saw average demand for a $58 billion sale of three-year notes on Tuesday. It will also sell $22 billion in 30-year bonds on Thursday.

(Reporting by Karen Brettell; Editing by Will Dunham)