Stocks rebounded in late trading but still finished lower as concern about fallout in the subprime industry put a temporary brake on the Dow's run to 14,000.
"Subprime isn't good news, but despite this the market will still rally higher," said Jordan Kotick, global head of technical strategy at Barclays Capital. "We keep consolidating at higher levels. Subprime hasn't affected the market in the last couple of months. We see no reason why it will affect it going further."
The bulls attempted to bring the market back in the final minutes of trading. The Dow had been down as much as 148 points before buyers pared losses right before the close. The influential financials sector was the biggest percentage loser among the S&P 500 sectors on the subprime jitters. Energy, utilities and materials were the only winners. Technology shares suffered after disappointing earnings reports from Intel and Yahoo!
"I think it's kind of a spillover from the subprime problem," Michael Metz, chief investment strategist at Oppenheimer, told CNBC.com. "It's getting more serious and nobody knows what the exposure of the lenders is. So that's creating some anxiety."
Comments from Federal Reserve Chairman Ben Bernanke did little to offset negative sentiment. The Fed lowered its forecast for economic growth in the U.S. for the rest of the year.
"I think the Fed's downward revision of GDP for the remainder of this year and into 2008 is more at the heart of this selloff than anything else," said Marc Pado, U.S. market strategist at Cantor Fitzgerald. "The market is looking for the economy to reassert itself and it's a bit of a blow to the expection for future growth."
In testimony before Congress, Bernanke said the economy is likely to see more subdued growth this year due to problems in the housing market, however the threat of inflation continues to be the biggest concern for the Fed. Bernanke also said conditions in the subprime mortgage sector have deteriorated significantly and that foreclosures are likely to get worse.
"I don't think it's very far out of trend with what he has been saying," said Bill Rhodes, chief investment strategist at Rhodes Analytics. "I think the most interesting thing is his increased attention on the subprime market and on what effect it's going to have on consumers."
"He talked about subprime and a little about credit because he has to," said James Bianco, president of Bianco Research. "That's what he's going to get most of his questions about, but I don't think that's really going to affect policy."
Subprime worries hit global indexes after a CNBC report late Tuesday that two Bear Stearns hedge funds that bet heavily on subprime mortgages are now essentially worthless. The worries trumped enthusiasm for deal activity, both concrete and speculative. The development also led to analyst downgrades on five investment banks.
A rumor that Lehman Brothers might make a statement regarding its exposure to the subprime mortgage crisis sent investors flocking to Treasury bonds and avoiding stocks. Lehman said the rumors were unfounded.
Treasury prices were higher, sending yields lower. The move in bonds reflected a flight-to-quality bid as investors worried about rising mortgage delinquencies and foreclosures.
A slightly hotter-than-expected headline CPI number and mixed housing data added to anxiety.
The Labor Department said the consumer price index (CPI) rose 0.2% in June, and the core rate, which excludes volatile food and energy prices, also rose 0.2%. The CPI was expected to rise 0.1%, while the core was predicted to rise 0.2%, according to economists surveyed by CNBC and Dow Jones.
Housing starts rose 2.3% in June to 1.46 million units. The annual rate of groundbreaking on new homes was expected to decline by 1.6%. Although housing starts rose in June, traders were disappointed by a 7.5% decline in building permits.
The earnings continued to pour in.
United Technologies said second-quarter profits rose 4% from the same period last year due to growth in commercial aerospace and construction. Earnings for the quarter were $1.16 a share. That beat estimates of analysts surveyed by Thomson Financial.
Altria , the owner of Phillip Morris cigarettes, said second-quarter income fell more than 18%, but the company also reported a rise in profit from continuing operations and revenue. Altria lowered its full-year earnings guidance, citing higher than expected asset impairment and exit costs.
JPMorgan Chase said its profit jumped 20% in the second quarter. The nation's third-largest bank said it benefited from a surge in investment banking fees.
Dow component Pfizer fell after the drugmaker said its second-quarter profit dropped 48% year-over-year. The company blamed the decline on the loss of patent exclusivity for its Zoloft and Norvasc drugs and sluggish sales of the cholesterol drug, Lipitor, in the U.S.
Disappointing earnings news on Tuesday from two tech heavyweights weiged on technology shares from the start of the session.
Shares of Intel fell sharply, making the stock the biggest percentage loser on the Dow. On Tuesday, the company reported a jump in second-quarter profit of 44% on strong sales of microprocessors. However, the Intel shares fell on concerns that fierce competition will continue to push chip prices lower.
Yahoo! also fell after the company cut its full-year outlook.
New York light sweet crude futures rose back to $75 a barrel after government inventory data showed gasoline and distillate supplies fell unexpectedly last week. Crude oil supplies also dropped, while refinery capacity use increased.
The board of Dow Jones said late Tuesday it is prepared to recommendNews Corp.'s $5 billion offer, although that must still gain the approval of the Bancroft family, which controls the publisher.
Meanwhile, private equity group Kohlberg Kravis Roberts, along with Goldman Sachs , is getting ready to offer $24 billion for retailer Macy's , Women's Wear Daily reported. Shares of Macy's surged on the news.
European Markets Close Lower
The Frankfurt DAX was the worst performer of the major indexes, while London's FTSE-100 and the Paris CAC-40 finished lower as well, as the subprime jitters brought out sellers.
Among active stocks, Dutch brewer Heineken said it expects profit to rise 20% to 25%, excluding acquisitions, in 2007, well ahead of its previous forecast of 10% to 13% growth.
And Dutch computer services company Getronics plunged 16% after it said takeover talks with a U.S. company broke down.
Britain's Imperial Tobacco's struck a deal to buy Franco-Spanish tobacco company Altadisfor $22 billion, including debt.
And U.K. supermarket chain J. Sainsbury confirmed it had received a takeover bid from a Qatari investment group, reported to be worth $24.5 billion.
Asian Markets Stumble
Asian markets were mostly weaker Wednesday after a lackluster earnings report from Intel sank tech stocks in the region. Japan and South Korea both closed 1% lower.
Tokyo's Nikkei 225 Average was sharply lower, with technology shares such as Shin-Etsu Chemical losing ground after lackluster results from chip giant Intel raised concerns over high-tech demand. Shares of Tokyo Electric Power slid 4% after it said it had found some 50 problems at its Kashiwazaki-Kariwa nuclear power plant in Niigata Prefecture after a strong earthquake hit the area on Monday.
South Korea's KOSPI shed 1%, marking a second consecutive session in the red as POSCO slumped on worries that earnings growth would slow and amid caution about valuations after a recent record-setting surge.
In Australia, the S&P/ASX 200 Index finished lower, as weaker oil prices weighed down on
energy firms such as Woodside Petroleum, while a mixed performance in base metals pressured mining firms.
Shares in Thailand finished lower and the central bank cut its benchmark interest rate by 0.25% to 3.25%. Economists had predicted the central bank to keep rates steady.
China's Shanghai Composite Index was higher, led by financial and property shares -- sectors benefiting from the country's currency appreciation against the U.S. dollar. Speculation is swirling that China's macroeconomic data, expected on Thursday, could show a spike in June inflation and that would increase the chances of a fresh round of policy tightening, according to economists and market participants.
Hong Kong stocks were down with investors concerned that economic data from China this week could herald fresh tightening steps, while some oil stocks like Sinopec fell amid high crude prices.