* NY Fed President Dudley says Sept rate hike possible
* Dollar pares losses, bond yields rise
* Indexes down: Dow 0.29 pct, S&P 0.36 pct, Nasdaq 0.47 pct (Updates to early afternoon)
By Yashaswini Swamynathan
Aug 16 (Reuters) - U.S. stocks declined the most in two weeks on Tuesday after New York Federal Reserve President William Dudley said an interest rate hike in September was possible.
Dudley’s comments pulled the three main indexes away from record levels and nudged up bond yields, while the dollar pared earlier losses.
“The labor market is getting tighter and we’re starting to see signs of wage gains starting to accelerate, so I think we’re getting closer to that point in time when it will be appropriate to actually raise short-term rates again,” Dudley, a permanent voting member of the Federal Reserve and a close ally of Fed Chair Janet Yellen, said on Fox Business Network.
The comments raised expectations among traders of an interest rate hike this year - they now see an 18 percent chance of a hike in September, up from 9 percent before Dudley’s comments.
Bets on a December hike jumped to 42.6 percent from 37.4 percent, according to the CME Group’s FedWatch tool.
Investors will pore over the minutes of the Fed’s July policy meeting, scheduled for release on Wednesday, for clues on the central bank’s rate plans after a blowout June jobs data.
“I wouldn’t be surprised if there was a rate hike in September because the economy in general is doing better than what most people had feared,” said Todd Morgan, chairman at Bel Air Investment Advisors in Los Angeles, California.
Morgan, however, said the decline in the market was mostly due to profit taking.
Better-than-expected quarterly earnings, coupled with continued expectations of low interest rates have put Wall Street on a record-setting run, with the S&P 500 index notching 13 record intraday highs since July.
At 12:28 p.m. ET (1628 GMT), the Dow Jones industrial average was down 54.65 points, or 0.29 percent, at 18,581.4, the S&P 500 index was down 7.9 points, or 0.36 percent, at 2,182.25 and the Nasdaq Composite index was down 24.67 points, or 0.47 percent, at 5,237.35.
Eight of the 10 major S&P 500 indexes were lower, with the traditionally defensive sectors - telecom service providers and utilities - declining the most.
Shares of industrial gas supplier Praxair jumped 5 percent to $123.93 after the company announced that it was in early-stage talks of a merger with German peer Linde. Praxair was among the top influences on the S&P 500.
Declining issues outnumbered advancing ones on the NYSE by 2,001 to 885. On the Nasdaq, 1,894 issues fell and 857 advanced.
The S&P 500 index showed four new 52-week highs and no new lows, while the Nasdaq recorded 57 new highs and 20 new lows. (Reporting by Yashaswini Swamynathan in Bengaluru; Editing by Saumyadeb Chakrabarty)