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Stocks Turn Around, Bolstered by Merrill

The averages rally after a judge tosses out an investor class-action suit.

Updated from 4:04 p.m. EDT

Stocks made a dramatic comeback to close with moderate gains Tuesday, overcoming two key weak economic reports and rallying on news that a judge tossed out a class-action lawsuit against

Merrill Lynch



Off as much as 100 points earlier, the

Dow Jones Industrial Average

closed up 55.51 points, or 0.6%, to 9040.95. The

Nasdaq Composite

, boosted by a rally in big-cap names, gained 17.26 points, or 1.1%, to 1640.06, while the

S&P 500

gained 7.81 points, or 0.8%, to 982.31.

The heavy selling occurred after the 10 a.m. EDT release of the Institute of Supply Management index, which came in at 49.8, a signal of economic contraction. While it's an improvement from May's reading of 49.4, it missed economists' expectations for 51.0. The ISM index, which is national, follows Monday's lackluster release of manufacturing data for the Chicago region.

But markets bounced back just after 2 p.m. EDT, when news broke that a judge had dismissed a lawsuit over tainted research at Merrill Lynch. The Merrill news, the recent spate of short-covering, and the low volume all helped trigger the upside move. Shares in the brokerage rose $1.52, or 3.3%, to $48.20.

"I'm hearing that it's a combination of buy programs that triggered short-covering. I think too many folks were caught leading the wrong way," said

TheStreet Recommends

contributor James DePorre. "All of sudden the news of the brokerage settlement with Merrill hit and that got the stampede going to the upside. News like the Merrill news is often a convenient excuse." (

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And while the weak data set a negative tone, the fact that Tuesday is the first day of the third quarter also helped pressure stocks in the early session.

"The negativity that started on the open was accelerated by bad numbers. But the weakness was probably generated by the fact we ended the quarter yesterday," said Art Hogan, chief market analyst at Jefferies & Co. "If you were to go back and track action in day one of the new quarter, you tend to see a bit of a selloff. We have to get over the effects of window-dressing and the S&P and Russell rebalancing."

Extending the streak of weak data, construction spending for May fell 1.7%, missing analyst expectations for growth of 0.3% and extending April's revised decline of 0.6%. In other economic news, auto sales were weak during June, with new-car sales coming in between 16.3 million and 16.5 million on a seasonally adjusted annual basis, flat with year-ago comparisons. And while that's up from the rate of 16.1 million seen in May, heavy discounts were behind the sales boost.

Of the notables,


(F) - Get Ford Motor Company Report

shares fell 17 cents, or 1.6%, to $10.82 after reporting total U.S. sales were off 7.7% year over year.

General Motors

(GM) - Get General Motors Company Report

dropped 26 cents, or 0.7%, to $35.74 after saying total U.S. sales in June were up 1.5%.

In corporate news, aircraft-maker


(BA) - Get Boeing Company Report

secured an order for more than 100 planes from

AirTran Airways


, valued at around $6 billion,

The Wall Street Journal

reported. Nonetheless, Deutsche Bank analysts lowered their rating on the stock to sell from hold, saying its price does not accurately reflect business conditions in the aircraft space. Boeing shares gained 33 cents, or 1%, to $34.65, while AirTran gained 73 cents, or 7%, to $11.20.

Elsewhere in the commercial airline space,

Mesa Air

(MESA) - Get Mesa Air Group Inc Report

announced a deal with



unit United Airlines to operate as a United Express carrier, adding 35 regional jets with an option to add 25 more down the road. Mesa shares jumped 42 cents, or 5.3%, to $8.42.

In another research action, Smith Barney raised its rating on


(SBUX) - Get Starbucks Corporation Report

to outperform from in-line. Analysts believe the company will continue with the best same-store sales in the industry, and that investors will be attracted to the stock's valuation. Shares of the coffee retailer were up $81, or 3.3%, at $25.33.


(SAP) - Get SAP SE Report

was downgraded to neutral from overweight by J.P. Morgan, which told investors that customers are curbing spending and that growing market share in a declining market is not necessarily a sign of strength. Stateside, SAP fell 37 cents, or 1.3%, to $28.85.

In other news,



shares were down 13 cents, or 0.4%, at $30.23 after being upgraded to outperform from in-line at Goldman Sachs.

LSI Logic

(LSI) - Get Life Storage, Inc. Report

rose 38 cents, or 5.4%, to $7.46 after Morgan Stanley upped the chipmaker to equal weight from underweight.






(ALL) - Get Allstate Corporation Report

were both upgraded to buy from neutral at Banc of America Securities, which told clients that Aetna's lower costs will help it outperform, while Allstate's unit volume was showing more growth. Aetna rose $2.79, or 4.6%, to $62.99, while Allstate rose $1.20, or 3.7%, to $36.95.

Millennium Pharmaceuticals


said it is partnering with a

Johnson & Johnson

(JNJ) - Get Johnson & Johnson Report

unit to sell the Velcade cancer drug. Millennium shares were down $1.73, or 11%, at $14, while J&J shares gained 72 cents, or 1.4%, to $52.42. Investors expected more than the $15 million in upfront payments and $125 million per milestone reached.

Level 3 Communications


, a provider of high-speed networks backed by Warren Buffett, said it will meet previous forecasts for second-quarter and full-year results and will sell $250 million of convertible bonds. Shares fell 63 cents, or 9.5%, to $6.03.

Shares of


(VZ) - Get Verizon Communications Inc. Report

gained 5 cents, or 0.1%, to $39.60 after the company said second-quarter charges were due to accounting changes and its sale of the stake it held in Grupo Iusacell. The company said earnings estimates would not be affected by the change.



shares rose 17 cents, or 12.5%, to $1.53 despite a mixed earnings outlook. On Monday night, the company announced that second-quarter revenue would handily top estimates, but that third-quarter revenue would miss by a narrow margin.

Overseas markets were mixed, with London's FTSE 100 closing down 1.7% to 3964 and Germany's Xetra DAX ending 2.3% lower to 3147. In Asia, Japan's Nikkei closed 2.2% higher at 9278, while Hong Kong's Hang Seng lost 0.8% to 9577.

Treasuries were slightly higher, with the yield on the 10-year note down 2 basis points at 3.5%. Crude oil prices fell to $27.83 in London, while the dollar was stronger against the Japanese yen but weaker vs. the euro.

Stocks had a flat-to-lower session Monday, when the Dow Jones Industrial Average ended down almost 4 points, or 0.04%, at 8985. The S&P 500 lost 1.7 points, or 0.2%, to 974, while the Nasdaq Composite fell 2 points, or 0.2%, to 1622.