Disappointing stats on the job market added another layer of anxiety to a market already worried about a global slowdown, which sent stocks spiraling back into bear-market territory.
All three major indexes were more than 20 percent below their October highs: The Dow Jones Industrial Average tumbled 344.65, or 3 percent, to close at 11188.23. (Track the Dow's biggest losers.)
The S&P 500 also shed 3 percent, while the tech-heavy Nasdaq lost 3.2 percent.
Initial jobless claims rose by 15,000 last week, snapping a three-week declining streak. Economists had expected claims to hold steady.
This followed a report from ADP payroll service that private employers cut 33,000 jobs from their payrolls in August. That was just slightly more than the 30,000 drop economists had expected.
The employment reports rattled the market's cage more than usual because Friday is the big August jobs report and investors are worried about what they might hear. Economists expect to see nonfarm payrolls shrink by 75,000 and for the unemployment rate to hold steady 5.7 percent.
"Although some of the recent increase in claims reflects technical factors—claims had been around 370k for months until they began to spike in the middle of July—the increase almost certainly reflects deterioration in the labor market," Tony Crescenzi of Miller Tabak wrote in a note to clients. "This deterioration will likely be evident in upcoming employment news."
(Worried about your own job? Click here to find out what sectors are most at risk.)
Upticks in service-sector activityand U.S. worker productivity, good signs for U.S. companies amid the economic slump, did little to console the market.
The market also shrugged off a drop in crude oil and rise in the dollar, factors that, up until recently, would have moved the market in a positive direction.
Crude oil dropped nearly $1.50, settling at $107.89 a barrel,despite supplies being drawn down last week. Oil has now fallen for five straight days and has shed 8.7 percent in that time period.
The dollar hit its highest level against the eurothis year after the European Central Bank cut its outlook for euro-zone growth.
Adding to the selling pressure were comments from Bill Gross, manager of the world's biggest bond fund, that the government should give the Treasury department the right to buy debt and other assetsto stave off a financial crisis. The Pimco chief said he and other big investors are avoiding buying bank debt until the Treasury steps in.
Signs of a slowdown were evident across a variety of sectors, most notably in the tech sector, which has some of the heaviest overseas exposure.
Shares of Ciena tumbled 25 percent after the telecom and network-gear maker warned that fiscal fourth-quarter revenue would fall well short of expectations. RBC analyst Mark Sue projected that Ciena's woes will continue into the next fiscal year as its major-telecom-firm customers are delaying equipment orders.
Construction- and mining-equipment maker Terex also issued a dismal outlook, cutting its 2008 forecast due to weak demand in both Europe and North America. Its shares dropped 20 percent.
A day earlier, the CEO of Qualcomm told CNBC that the company is seeing signs of users slowing their cellphone upgrades, and Corning, the world's largest maker of glass for liquid-crystal displays for televisions and computers, slashed its third-quarter outlook.
Retailers were largely in the red after the release of August same-store sales reports.
Wal-Mart hit it out of the parkfor the back-to-school season, reporting same-store sales rose 3 percent, about double what analysts had expected. Wal-Mart shares, which had been one of two gainers on the Dow all day, finished flat, driven down by the late-day rout.
Department stores including JCPenney and Kohl's reported sales fell but beat expectations.
But there were misses across the board, from luxury retailers to teen retailers — even wholesale warehouse club Costco .
