Weak Data Send Stocks Reeling

Updated from 4:06 p.m. EST

Wall Street fell sharply Tuesday as a weaker-than-expected report on the service sector of the economy extended the previous session's losses and stoked fresh concerns about a recession hitting the U.S.

The Dow Jones Industrial Average plunged 370.03 points, or 2.93%, to 12,265.13, pressured by declines of 4.8% or more in Citigroup (C Quote - Cramer on C - Stock Picks), JPMorgan Chase (JPM Quote - Cramer on JPM - Stock Picks), Verizon (VZ Quote - Cramer on VZ - Stock Picks) and Caterpillar (CAT Quote - Cramer on CAT - Stock Picks).

Elsewhere, the S&P 500 sank 44.18 points, or 3.2%, to 1336.64, its worst decline in a year. The Nasdaq Composite slid 73.28 points, or 3.08%, to 2309.57, following selloffs in Dell (DELL Quote - Cramer on DELL - Stock Picks), eBay (EBAY Quote - Cramer on EBAY - Stock Picks) and Intel (INTC Quote - Cramer on INTC - Stock Picks).

The financial sector again weighed on stock indices. The Amex Securities Broker/Dealer Index dropped 5.3%, the NYSE Financial Sector Index slumped 4.3% and the Nasdaq Financial 100 Index fell 3.7%.

Breadth remained negative. About 3.92 billion shares changed hands on the New York Stock Exchange, and volume on the Nasdaq reached 2.42 billion shares. Losers beat winners 4 to 1.

"Many worry that we are headed for a bear market after equities recently declined more than 16% from the peak and would have likely fallen more than 20% from the peak if the [Federal Reserve] had not lowered rates between meetings," said Bill Stone, chief investment strategist with PNC Wealth Management.

Stocks started on the wrong foot following the early release of the Institute for Supply Management's nonmanufacturing index for January, which came in at a reading of 41.9, signaling a downturn in activity. Economists had expected the index to dip to 53.0 from 54.4 in December.

"Obviously, this ISM number is not good news," said Peter Cardillo, chief market economist with Avalon Partners. "Every single component of the index was down, indicating contraction. One report doesn't constitute a trend, but it's certainly one more piece of information that indicates the economy has slowed and is slowing."

Ian Shepherdson, chief economist with High Frequency Economics, noted that the latest ISM services index is the worst since the survey began in October 2001. "The low for the business activity index in the recession of 2001 was 47.9, so it is very tempting to see this survey as evidence that recession is unavoidable," said Shepherdson.

Last week, the ISM said its manufacturing index surprisingly rose to 50.7 during the first month of the year from 48.4 in December. Readings above 50 indicate that manufacturing activity is expanding, and at the time was a welcome sign to those concerned over recession prospects.

Following the services index data, U.S. Treasury prices rallied. The 10-year note was up 22/32 in price, yielding 3.56%. The 30-year bond was rising 31/32 in price to yield 4.32%.

"There will likely be more bad economic news to come as the Fed's medicine will take time to work," said Stone. "But there are some early signs of healing. Lower rates are driving mortgage refinancing which should help consumption and might eventually take the housing market off life support. In addition, the steepening yield curve should help the ailing financial sector."

Shares of Yahoo! (YHOO Quote - Cramer on YHOO - Stock Picks) were off 1.2% to $28.98 after Banc of America Securities cut its rating for the Internet search giant to neutral from buy.

On Friday, Microsoft (MSFT Quote - Cramer on MSFT - Stock Picks) announced that it had made hostile bid for Yahoo!, one that pushed the stock higher by 53% over the last two sessions. BofA said the deal will most likely face significant regulatory hurdles if approved, which would delay the closing of the acquisition.

Earnings were also in focus. After the previous close, News Corp. (NWS Quote - Cramer on NWS - Stock Picks) reported a fiscal second-quarter profit that was unchanged from a year ago, falling a penny short of estimates. Still, the stock finished up 0.6% at $20.08.

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