Stocks slip on housing market fears

Concerns about slipping housing markets and rising mortgage delinquencies sparked a broad sell-off on Wall Street yesterday, driving stocks sharply lower and leaving investors to worry whether housing and credit problems will undermine the US economy.

The Dow Jones industrial average fell as much as 450 points during the day before closing at 13,473.57, down 311.5 points or 2.26 percent. It was the biggest one-day drop since February, when the blue chip index plunged more than 400 points. Since hitting a record high just above 14,000 a little more than a week ago, the Dow has lost more than 500 points.

Broader indexes also fell sharply yesterday. The Standard & Poor's 500 fell 35.43, or 2.3 percent, to 1,482.66. The Nasdaq Composite index slid 48.83, or nearly 2 percent, to 2,599.34.

"We had a panicked dumping of stocks," said Al Goldman, chief market strategist at A.G. Edwards & Sons Inc. in St. Louis. "The Dow is up 5 percent over the past three weeks, and we were cruisin' for a bruisin.' "

The question facing investors now is whether the market will rebound quickly, as it did in February, or slide further. Goldman said yesterday's sell-off is likely to be a one-day event. He said the overall economy remains strong, and will weather the weakness in housing and mortgage markets.

But Mark Zandi, chief economist at Moody's Economy.com, said stocks could be headed for a deeper correction, with prices falling 10 percent or more. Investors are only beginning to appreciate the risks that the weakening housing market poses to the broader economy.

Although not likely, he said there's a chance of the housing market slipping into a downward cycle of falling prices, rising delinquencies, and tighter credit, which in turn reduces the number of buyers and drives prices even lower and repeats the cycle.

In a report released yesterday, Economy.com forecast that delinquencies will continue to rise well into next year, peaking nationally at 3.6 percent of all mortgages in the summer of 2008, up from 2.9 percent in the first quarter of this year.

"Investors are rethinking the depths and length of the housing and mortgage market downturn," Zandi said. "And the downturn isn't nearly over."

Investors, meanwhile, are reassessing related financial investments and pulling back from them, too, Zandi added. For example, investment banks have had difficulty selling corporate bonds to finance takeovers, which could undermine some recent deals and weaken what had been a pillar of support for higher stock prices. Takeover deals generally drive stocks higher. Just this week investment banks failed to find enough buyers for the $12 billion in bonds needed to finance the buyout of automaker Chrysler by Cerberus Capital Management LP of New York.

"These risks are coming into investors' minds," Zandi said. "They've decided to take a fair amount of money off the table."

Over the past several days, investors have become increasingly concerned that housing and mortgage are indeed affecting the general economy. Delinquencies and foreclosures that once seemed limited to so-called subprime loans made to homeowners with less that stellar credit, are beginning to appear among borrowers who are considered the best credit risks.

Earlier this week, for example, Countrywide Financial, the nation's biggest mortgage lender, reported disappointing profits, which it attributed to rising delinquencies from home equity loans made to prime borrowers, or those with good credit ratings.

"The markets were a little bit stunned by Countrywide, which has been a very astute lender," said Patrick Newport, an economist specializing in housing at Global Insight, the Waltham forecasting firm. "That means there's more bad news in the pipeline."

And certainly, the housing news has been bad this week. Yesterday, the Commerce Department reported that new home sales plunged again in June, down more than 22 percent from a year ago (Story, page C2). On Wednesday, the National Association of Realtors said existing home sales were down more than 11 percent from June 2006.

Also yesterday, the Commerce Department reported that orders for equipment and other big-ticket items, durable goods, were weaker than expected, a signal that business spending may be slowing. Business spending is considered important to sustaining the expansion as consumers struggle with high gas prices and falling home values.

These concerns have overshadowed generally profitable performance by leading US corporations. Thomson First Call, a financial research firm in Boston, said second-quarter profits reported so far by companies sin the S&P 500 index are up 7 percent from a year ago, well-ahead of expectations.

Brian Bethune, US Economist at Global Insight, said he expects markets to remain volatile as investors try to decipher risks. Part of the problem is the complexity of mortgage financing today, in which mortgages are packaged together and bought and sold as investments.

As a result, it's difficult to know who holds the riskiest mortgages and what shape they are in, said Bethune. Recently, Bear Stearns said two of its hedge funds with large holdings of sub-prime mortgages had become virtually worthless.

"It's hard to figure out where all this debt landed, and where are the exposures," Bethune said. "There's not good information about what risk is out there, and that's what leads to indigestion in the equity and bond markets."

Robert Gavin can be reached at rgavin@globe.com.