(Updates to afternoon New York trading)

* Middle East tensions drive oil prices higher, fueling

inflation concerns

* US economic data beats forecasts, with strong private

payrolls and factory orders

* Fed's Williams sees no need to change rates despite

inflation risks

By Chuck Mikolajczak

NEW YORK, June 3 (Reuters) - U.S. Treasury yields rose

on Wednesday as rising hostilities in the Middle East following

strikes by both the U.S. and Iran sent oil prices higher and

reignited worries about sustained inflation pressures.

The yield on the benchmark U.S. 10-year Treasury note

rose 3.4 basis points, its biggest daily gain in

two weeks, hitting 4.489% after climbing to 4.499% on the

session.

After hitting a 16-month high of 4.687% on May 19, the

benchmark yield had been in a downtrend on optimism that the

U.S. and Iran would reach an agreement that would reopen the

crucial Strait of Hormuz.

But diplomatic efforts appear to have stalled, as Iranian

attacks on Kuwait damaged its airport and injured dozens, while

the U.S. military carried out strikes near Hormuz, which prior

to the war was the transit point for one-fifth of the world's

oil and gas supply.

"For the most part, everybody's eyes are on what's going on

in the Mideast and will continue to be," said Tom di Galoma,

managing director at Mischler Financial Group in Stamford,

Connecticut.

"As the war lingers, rates will go higher. I'm looking for

10-year notes to get up to the 4.70% to 4.75% level."

U.S. crude rose 2.4% to $96 a barrel and Brent

rose to $97.77 per barrel, up 1.8% on the day.

The yield on the 30-year bond gained 2.3 basis

points to 4.99%.

PRIVATE EMPLOYMENT GAINS EXCEED EXPECTATIONS

Federal Reserve Bank of New York President John Williams

reiterated that he does not believe the U.S. central bank needs

to change the setting of short-term interest rates despite

upside inflation risks tied to the Middle East war and other

forces.

After beginning the year pricing in roughly 50 basis points

worth of cuts from the Fed this year, market expectations have

shifted and are now pricing in about 20 basis points in hikes,

according to LSEG data.

A closely watched part of the U.S. Treasury yield curve

measuring the gap between yields on two- and 10-year Treasury

notes, seen as an indicator of economic

expectations, was at a positive 40.7 basis points.

The two-year U.S. Treasury yield, which

typically moves in step with interest rate expectations for the

Fed, advanced 2.9 basis points to 4.068%.

U.S. private payrolls increased by 122,000 last month, according

to the ADP national employment report, topping the 117,000

estimate of economists polled by Reuters, after a downwardly

revised 105,000 gain in April. The report is a precursor to

Friday's government payrolls report.

The Institute for Supply Management's nonmanufacturing

purchasing managers index increased to 54.5 last month, besting

the 53.8 estimate, from 53.6 in April.

The Commerce Department said factory orders surged 4.8% in

April, the largest increase since May 2025 and above the 4.6%

forecast, after an upwardly revised 1.8% advance in March.

The Fed's "Beige Book" report of data from around the country

showed economic activity increased a bit in recent weeks,

employment was little changed, and the fallout from higher

energy prices due to the war was pervasive.

The breakeven rate on five-year U.S. Treasury

Inflation-Protected Securities (TIPS) was last at

2.537% after closing at 2.534% on Tuesday.

The 10-year TIPS breakeven rate was last at

2.394%, indicating the market sees inflation averaging about

2.4% a year for the next decade.