Stocks Take a Tumble

According to Merrill Lynch's latest fund manager survey, 81% of respondents now expect corporate profits to improve. On average, fund managers project earnings per share will grow 9% in the next 12 months, up from 6.5% three months ago, and these earnings are perceived to be of higher quality than before.

David Bowers, chief investment strategist at Merrill, said fund managers are getting out of staples and utilities and are taking positions in technology, media and other cyclical assets on hopes for an economic improvement. Economic growth and company profit expectations are at their highest since the first half of 2002, he said.

In other earnings news, Fannie Mae(FNM Quote) reported a slightly greater-than-expected drop in its second-quarter profit. Although the company affirmed its full-year 2003 earnings growth outlook, it also predicted second-half profit will fall below Wall Street estimates and below first-half levels. Shares fell $2.32, or 3%, to $69.06.

J.P. Morgan(JPM Quote) could reach two settlements with New York's District Attorney's Office over allegations that it inappropriately helped Enron brush up its finances, The Wall Street Journal reported.

Elsewhere in the financial sector, Wells Fargo(WFC Quote), the fourth-largest U.S. bank, said second-quarter net profit rose with the help of higher consumer lending and deposits.

Energy trader and producer Mirant(MIR Quote) filed for bankruptcy protection late Monday following failure to secure support from bondholders and banks to restructure its debt.

Chip-technology concern Rambus(RMBS Quote) reported a decline in earnings, but sharply higher revenue in its fiscal third-quarter results.

In economic news, retail sales rose a slightly higher-than-expected 0.5% last month after being flat in May. Excluding auto sales, the figure rose 0.7% after a 0.1% increase in May. Economists had predicted a 0.3% advance for the ex-auto number.

The New York Federal Reserve's Empire State manufacturing survey fell to 22.6 in July compared with 27.6 the previous month, but was still higher than Wall Street's estimates. Separately, the White House said the federal budget deficit would hit a record $455 billion this fiscal year and climb another $20 billion in 2004, as military operations in Iraq and Afghanistan have proven costlier than expected.

The FOMC said on Tuesday it expects growth of between 2.5% and 2.75% this year, compared with previous forecasts of 3.25% to 3.5%. Still, it expects growth to pick up in the second half of the year. The FOMC also projects growth of 3.75% to 4.75% from the fourth quarter of 2003 to the fourth quarter of 2004.

Overseas markets were mixed, with London's FTSE 100 down 0.6% at 4102 and Germany's Xetra DAX down 0.3% at 3384. Japan's Nikkei closed 0.05% lower at 9751, while Hong Kong's Hang Seng gained 0.13% to 10135.

Crude oil prices were higher in New York. The dollar was higher against the yen and euro.

On Monday, the Dow finished up 57 points, or 0.6%, at 9177. The S&P 500 gained almost 6 points, or 0.6%, to 1003, while the Nasdaq rose 21 points, or 1.2%, to 1754.