Wall Street stocks tumbled on Tuesday after an index of service sector activity slumped to its lowest level since the aftermath of the September 11 attacks, accentuating fears for the health of the US economy.
The extremely weak non-manufacturing data caused stocks to record their worst performance in almost a year as traders priced in a greater likelihood of a domestic recession.
All ten of the S&P's leading sectors closed in negative territory with financial, energy and telecoms companies leading the rout.
The S&P 500 closed down 3.2 per cent at 1,336.64, its worst day since February 27 last year when the index fell 3.5 per cent. A broad-based sell-off saw only 16 index members end in positive territory. The S&P has now declined 9 per cent in 2008, its worst start to a year ever.
The Nasdaq Composite fell 3.1 per cent to 2,309.57 while the Dow Jones Industrial Average shed 2.9 per cent - or 370 points - to 12,265.13.
The equities slump was accompanied by a spike in the CBOE Vix index - Wall Street's "fear gauge" - which jumped 9 per cent to 28.33.
The ISM non-manufacturing index recorded its biggest fall in its history, plunging to 41.9 last month from a reading of 54.4 in December. It was the first contraction in service sector business activity since the start of the Iraq war and the lowest reading since October 2001.
"This data release corroborates the notion that the US economy is in recession,"T.J. Marta, fixed income strategist at RBC Capital Markets, said.
Economists were expecting only a small pullback to 53.5, where a reading above 50 indicates expansion.
Some analysts were more sanguine, noting that such a dire reading could be a contrarian indicator and investors should therefore buy into market weakness.
"The three worst readings in non-manufacturing ISM occurred in 2001 [twice] and 2003. In two of three instances, equity markets rose three months later, with an average gain of 6 per cent," Thomas Lee, strategist at JPMorgan Research, said.
Bond prices rose sharply and the yield curve steepened as traders speculated that the Federal Reserve would keep slashing interest rates to head off a severe economic downturn.
Sheryl King, economist at Merrrill Lynch said the dismal data meant there was a strong chance of an inter-meeting rate move before the next Federal Open Market Committee meeting in March. The futures market priced in a 76 per cent likelihood of a 50 basis point cut in March and a 24 per cent chance of 75bp.
Financial stocks came under pressure after Fitch Ratings said it might downgrade some of the safest triple-A rated collateralised debt obligations by as much as five notches.
Meanwhile in a report on bond insurers Standard & Poors said there could be serious ripple effects if monolines lose their triple-A ratings, including possible credit downgrades for US banks. S&P said $125 billion of subprime-related CDOs hedged by bond insurers were concentrated at a small number of banks. "Few banks have disclosed how much that exposure is," the rating agency said.
Among the biggest fallers were Citigroup (NYSE:C), down 7.4 per cent at $27.05 and Merrill Lynch, 5.6 per cent weaker at $54.50. GMAC Financial Services, the finance company owned by Cerberus Capital Management and General Motors, reported a preliminary net loss of $724m for the fourth quarter.
Also retreating sharply was Goldman Sachs (NYSE:GS), down 5.5 per cent to $189.86, after Oppenheimer & Co analyst Meredith Whitney cut her rating from "outperform" to "perform", citing valuation concerns. Ms Whitney said Goldman would "suffer from its own success" as it faced tough earnings comparisons this year.
Homebuilder stocks initially rallied after Banc of America Securities raised its rating on four companies citing expectations that lower house prices would increase demand. That mood had dissipated by the close as the S&P homebuilder index fell 4.9 per cent.
In the technology sector, National Semiconductor (NYSE:NSM), down 7.5 per cent at $17.59, spurred a sell-off in chip stocks after it lowered its third quarter revenue outlook because of expected weakness in mobile electronics sales. The PHLX semiconductor sector index fell 3.7 per cent.
Earnings news was led by NYSE Euronext, whose shares fell 14.1 per cent to $71.03 as concerns about its ability to realise anticipated cost savings worried investors.The exchange operator more than tripled quarterly net income to $156m.
Whirlpool (NYSE:WHR) was a lone bright spot, soaring 10.3 per cent to $90 after the appliance maker increased quarterly earnings by 72 per cent. News Corp, up 0.6 per cent at $20.08, which increased fourth-quarter profit 1.2 per cent to $832m.
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