Dow at 3-Month Low as Oil Fuels Inflation Jitters

Stocks tumbled Wednesday as oil's resurgence lit the fuse of inflation fears, pushing the Dow to a three-month low.

The Dow Jones Industrial Average closed down more than 206 points, or 1.7 percent, at 12083.77, its lowest close since March 17. The S&P 500 index also lost 1.7 percent, finishing below the key 1350 mark. The tech-heavy Nasdaq shed 2.2 percent.

Among 10 key S&P sectors, energy was the lone gainer, climbing 1 percent, while financials were the hardest hit, falling 3 percent. Information-technology and telecom stocks lost more than 2 percent.

"I thought this summer would start the turning back into the market -- it’s obviously not happening," Peter Costa, a trader with Eckhart & Co., told CNBC. Still, "I’m still optimistic for the end of the year," Costa said.

Costa is in the camp that the U.S. economy is, in fact, in a recession and says now is a good time to jump into the market.

"Recessions traditionally are a good investment starting point," Costa explained. "Look at the last 4-5 recessions: The market has gone up 7.5%, on average, from lower part. I do think that’s where we’re at right now," Costa said.

Oil jumped about $5 a barrel , settling at $136.38 a barrel after a report that showed crude inventories declined by 4.6 million barrels last week, more than four times what analysts had expected.

The U.S. economy remained weak in May, according to the Federal Reserve's beige-book report, so named for the color of its cover. The report, a quilt of reports from regional Fed branches, showed that inflation was rampant, but businesses were limited in their ability to pass on those costs to already-pinched consumers.

Mortgage applications rose after falling for three straight weeks, but there was some concern in the market of a domino effect: If the Fed raises rates due to soaring inflation, it could trigger another round of mortgage defaults.

Inflation concerns have gripped markets world-wide -- China's stock market dropped 7.7 percent yesterday after the government announced plans to take some money out of its financial system to curb inflation. The inflation rate there is 8 percent; in Vietnam, it's a whopping 25 percent, resulting in a move by the government that effectively devalued the currency. Federal Reserve and European Central Bank officials have begun to ratchet up the volume on inflation concerns. The topic will take center stage at a meeting of G-8 finance ministers at the end of the week.

ExxonMobil and Chevron two of only three gainers on the Dow today.

The third was Dupont , following news that the company plans to double the capacity of a China plant in order to propel its solar-energy business.

In yet another sign of how strong the agriculture sector is, ADRs of Canada's Agrium soared 8.7 percent after the Canadian fertilizer company sharply raised its second-quarter earnings forecast amid high crop prices and "unprecedented" demand.

Alcoa was the biggest decliner on the Dow, falling 8 percent, after JPMorgan downgraded its rating on the stock to "neutral" from "overweight" and slashed its 2008 earnings target to $2.18 a share from $2.70 a share. A weekend article in Barron's had suggested Alcoa might be an attractive takeover target but JPMorgan analysts said that the company has no such plans, much to the disappointment of investors.

"We believe the market will be disappointed with both the strategic direction from the new chief executive, Klaus Kleinfeld, and the company's near-term earnings due to higher-than-expected input costs," JP Morgan said.

After a lot of back and forth, news emerged today that office supplier Staples will buy Dutch company Corporate Express for $2.6 billion. Staples raised its initial offer twice before Corporate Express acquiesced. Staples shares jumped 5.3 percent.

Lehman Brothers shares fell 14 percent as news of another possible capital-raising deal increased the intensity of the swirl of concern surrounding the firm. Lehman has sought capital from Korean banks and could strike a deal later this year, the Financial Times reported. That news comes two days after Lehman raised $6 billion in stock and convertible preferred securities and said it expects to post a $2.8 billion loss when it reports earnings next week.

Merrill Lynch, meanwhile, reversed its call on Lehman, downgrading its rating on the stock, after establishing the "buy" rating last week and reiterating that "buy" rating yesterday. Merrill analyst Guy Moszkowski cited the scale of Lehman's expected loss and news of the capital raise for his bizarre decision.

It was a brutal day all around for financials amid the inflation jitters, with Merrill Lynch itself falling 6.6 percent.

(For some "non-toxic" picks in the financial sector, click on the video at left.)

Regional banks took it on the chin once again, with Washington Mutual tumbling 9.3 percent and National City off 6.5 percent.

Bank shares in Europe got a boost from a report that a Russian tycoon is building stakes in major Western banks and is urging other Russian billionaires to do the same.

Suleiman Kerimov has been selling his Russian assets, including stakes in the country's biggest bank Sberbank and gas giant Gazprom, to buy stakes in Deutsche, UBS