Updated from 4:16 p.m. EDT

Selling pressure that began after a discouraging report on the service sector worsened throughout the session Wednesday, and the major averages closed the day with steep losses.

The Dow Jones Industrial Average dropped 123.75 points, or 1.2%, to 10,317.36, and the S&P 500 fell 18.08 points, or 1.5%, to 1196.39. The Nasdaq Composite sank 36.34 points, or 1.7%, to 2103.02. The 10-year Treasury was up 5/32 in price to yield 4.35%, while the dollar fell against the yen and euro.

"The market went berserk to the wrong side," said Robert Pavlik, chief investment officer with Oaktree Asset Management. "Everything is reacting the wrong way. There's all the talk of inflation, but it's overdone. Everything is just very negative."

Since the start of the week, the Dow has lost 2.4%, the S&P 500 is down 2.6%, and the Nasdaq has fallen 2.2%.

Caterpillar ( CAT) and Hewlett-Packard ( HPQ) were two of the Dow's biggest losers, down 2.7% and 3.8%, respectively.

About 1.91 billion shares traded on the New York Stock Exchange, with decliners beating advancers by a 9-to-2 margin. Trading volume on the Nasdaq was 1.96 billion shares, with decliners outpacing advancers 4 to 1.

Energy prices finished Wednesday's session lower amid concerns about the strength of demand. Crude for November delivery slumped $1.11 to $62.79 a barrel. Unleaded gasoline futures were down 11 cents to $1.92 a gallon, and natural gas was lower by 4 cents to $14.18 per mmBtu after closing at a record high Tuesday.

After the Energy Department's weekly inventory report, which showed a 300,000-barrel decline in crude inventories, prices had moved much higher before sliding. Gas stocks were down by 4.3 million barrels, while distillate stores were lower by 5.6 million barrels.

On the economic front, the Institute for Supply Management's services index for September fell to 53.3 from 65.0 in August, pointing to a slower pace of expansion. A reading above 50 signals growth, but economists expected the number to come in at 60.0. At the same time, the prices-paid component of the index jumped, supporting the Federal Reserve argument that inflationary pressures are becoming more tangible.

If you liked this article you might like

Paradigm Opportunity Protects Investors in Tough Times

5 Things You Need to Know Before the Stock Market Opens (Correct)

U.S. Investors Brace for a Third Bailout in Greece

5 Things You Need to Know Before the Stock Market Opens

40 Hedge Funds' Best Stocks Show the Way for 2012 (Update 1)