Lurking doubts launch a sell-off

After closing above 10,000 this month for the first time in a year, the Dow tumbled 249.85 points Friday.
After closing above 10,000 this month for the first time in a year, the Dow tumbled 249.85 points Friday. (Richard Drew/associated Press)
By Renae Merle
Washington Post Staff Writer
Saturday, October 31, 2009

Wall Street recorded its sharpest drop in six months Friday as investors, who have been groping for evidence that an economic recovery is gaining steam, responded to renewed signs of weakness calling into question how vigorous the rebound might be.

The stock market was off more than 2 percent after the government reported a significant drop in consumer spending, which has traditionally been the engine of American economic growth. Investors have been looking for consumers to help propel the economy forward once several government programs that have jump-started the economy expire.

Those initiatives, including the popular "Cash for Clunkers" program, were behind the surprisingly strong quarter of growth this summer. After the government reported Thursday that gross domestic product was up 3.5 percent, the stock market soared even as some skeptics warned that it might be difficult to sustain strong economic activity.

Just a day later, the big gains were wiped away after a new batch of data underscored those lingering concerns, showing that consumer spending fell 0.5 percent in September. Although some kinds of consumer spending showed new signs of life, overall it was the biggest decline in nine months. The spending accounts for more than two-thirds of economy and has not shown convincing evidence of a comeback as unemployment rises.

Overlaid on those worries about the broader economy are gnawing doubts regarding the tremendous run up in stocks over recent months. The market has jumped more than 50 percent since reaching a low point in March, but now investors are questioning whether stocks have raced too far ahead.

Fear has crept back into the market. The Chicago Board Options Exchange's Volatility Index, which measures how much investors expect stocks to swing, soared 24 percent Friday to its highest level since July.

Stocks were down in all major sectors Friday, including all 30 companies in the blue-chip Dow Jones industrial average, which suffered its largest point drop since April. The Dow reached a milestone earlier this month when it closed above 10,000 for the first in more than a year. But it fell 2.51 percent or 249.85 points Friday to close at 9712.73, nearly where it started the month.

The Standard & Poor's 500-stock index fell nearly 3 percent Friday, leaving it down on monthly basis for the first time since February. The S&P was off 29.93 points to close at 1036.18, while the tech-heavy Nasdaq composite index slid 2.50 percent or 52.44 points to 2045.11. The Nasdaq was down 3.6 percent this month.

The sell off on Wall Street weighed on European markets, which lost steam Friday afternoon. London's FTSE fell nearly 2 percent, while the Dax in Germany tumbled more than 3 percent.

"A lot of professional traders have made their bonuses already. Why would they want to take on additional risk at this time especially when they have serious questions about the fundamentals of the economy," said Matt McCormick, portfolio manager and banking analyst at Bahl & Gaynor Investment Counsel, an investment management firm.

After rallying for months on expectations that the economy would improve, investors are now taking a critical look at the evidence. Of particular concern is what will drive the economy next year as economic stimulus measures wind down, analysts said.

"Investors are trying to look past that, the stimulus, to see what is it we're ultimately going to be left with after the government isn't there to prod spending through," said Jack Ablin, chief investment officer at Harris Private Bank in Chicago.

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