Stocks slump ahead of Fed decision

Wall Street retreats as investors mull the central bank's rate meeting, the outlook for automakers and the Madoff scandal.

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By Alexandra Twin, CNNMoney.com senior writer

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What impact would a General Motors bankruptcy have on the nation?
  • It would devastate the economy
  • It would be difficult, but a recovery would come
  • It would have no impact

NEW YORK (CNNMoney.com) -- Stocks slipped Monday amid worries about the automakers, questions about the Bernard Madoff scandal and anticipation of Tuesday's rate-cut decision from the Federal Reserve.

The Dow Jones industrial average (INDU) lost 0.8%. The Standard & Poor's 500 (SPX) index fell 1.3%, and the Nasdaq composite (COMP) slid 2.1%.

The market is gearing up for the end of the Fed meeting and is trying to figure out what to make of the Madoff scandal, said Fred Dickson, chief market strategist at D.A. Davidson & Co.

Money manager Madoff was arrested last week on charges that he instigated a $50 billion pyramid scheme that hit companies around the globe.

Investors are also focused on the automakers since the Bush administration said last week that it might offer General Motors (GM, Fortune 500) and Chrysler bridge loans from the $700 billion bailout fund Congress set aside for Wall Street. However, President Bush declined to give a timeline for any action, when speaking last weekend.

"Investors are expecting a rescue package to be announced, and most of that is baked into the market already," Dickson said.

But he said a bigger problem is what's going to happen to GM's finance arm, GMAC, if it fails to come up with the capital it needs to become a bank holding company. Such a step is necessary for the troubled GMAC to access federal money.

Dickson said that worries about automakers and GMAC have added an additional element of risk to the markets, making investors more cautious than they might otherwise be right now.

"The news has been so horrific that everyone is out of the pool at a time when valuations are unbelievable," said Phil Dow, director of equity research at RBC Wealth Management.

Between all-time highs hit in October of 2007 and the bear market lows of November 2008, the S&P 500 slumped 52%. In the three weeks after that, the S&P 500 rallied 21%. But since then, stocks have seesawed.

He said that the case can be made that over the next six months or so, the S&P 500 could add another 20% as investors scoop up quality names that have been hit hard in the selloff.

In addition to the decision from the Federal Reserve, Tuesday brings reports on consumer prices, building permits and housing starts.

Goldman Sachs and Best Buy report earnings before the start of trade. Goldman (GS, Fortune 500) is expected to have lost $3.50 per share versus a profit of $7.01 a year ago, according to Thomson Reuters estimates. Best Buy (BBY, Fortune 500) is expected to have earned 25 cents per share versus 53 cents a year ago.

Federal Reserve: The Fed's policy-setting committee is meeting Monday and Tuesday to discuss interest rates, with a decision due at around 2:15 p.m. ET Tuesday. The central bank is widely expected to cut the fed funds rate, a key bank lending rate, by at least a half-percentage point to 0.5%. Some bets are for a bigger cut to 0.25%.

Of greater significance will be what the accompanying statement says about the economy, labor market and credit crisis, Dickson said.

Economy: The New York Empire State index, a regional manufacturing report, slipped to minus 25.8 in December from minus 25.4 in the previous month. Economists surveyed by Briefing.com thought it would fall even more, to minus 27. The report shows that the manufacturing sector remains in a deep recession.

The Federal Reserve reported capacity utilization was 75.4% for November, down from a revised 76% in the previous month. Economists thought it would slip to 75.9%. Industrial production fell 0.6% versus forecasts for a drop of 0.8% and compared to a revised gain of 1.5% the month before.

Another report showed that homebuilders' confidence stayed at an all-time low in December due to the weak economy.

The United States has been in a recession since December 2007, according to a National Bureau of Economic Research report released last week. It is expected to last well into next year.

Company news: GM and Ford shares advanced Monday afternoon. Both companies have said that they are in immediate need of financing. Ford Motor (F, Fortune 500) says it has enough money to function, but would like to have the option of government funds should conditions deteriorate.

Among the companies that suffered losses in the Bernard Madoff scheme, Banking group HSBC said it could lose $1 billion. Other companies hit included the Royal Bank of Scotland (RBS), France's BNP Paribas, Spain's Banco Santander and Japan's Nomura Holdings (NMR). Royal Bank of Scotland shares were little changed, while Nomura shares fell 3.5%.

A variety of financial stocks retreated, including Bank of America (BAC, Fortune 500), Citigroup (C, Fortune 500), JPMorgan Chase (JPM, Fortune 500) and Merrill Lynch (MER, Fortune 500).

A number of big tech stocks dropped too, including Apple (AAPL, Fortune 500), Applied Materials (AMAT, Fortune 500), Dell (DELL, Fortune 500), Yahoo (YHOO, Fortune 500) and Oracle (ORCL, Fortune 500).

Market breadth was negative. On the New York Stock Exchange, losers beat winners by almost three to one on volume of 1.21 billion shares. On the Nasdaq, decliners topped advancers by three to one on volume of 1.69 billion shares.

Bonds: Treasury prices rallied, lowering the yield on the benchmark 10-year note to 2.51% from 2.58% Friday. Treasury prices and yields move in opposite directions.

The 10-year yield dipped below 3% in November for the first time since the note was first issued in 1962.

Lending rates improved. The 3-month Libor rate slipped to 1.86% from 1.92% Friday, according to Bloomberg. Libor is a key bank lending rate.

Other markets: In global trading, Asian markets rallied, while European markets ended lower.

The dollar fell to an 8-week low versus the euro and hovered near a 13-year low against the yen.

U.S. light crude oil for January delivery fell $1.77 to settle at $44.51 a barrel on the New York Mercantile Exchange, after rallying as high as $50.05 in the morning. Oil prices had spiked on bets that OPEC will lower output when it meets in Algeria later this week.

COMEX gold for February delivery gained $16 to settle at $836.50 an ounce.

Gasoline prices dropped 0.3 of a cent to a national average of $1.66 a gallon, according to a survey of credit-card swipes released Monday by motorist group AAA. Prices had posted two days of gains after sliding for 86 straight days. In those 86 days, prices dropped by $2.20 a gallon, or 57%. To top of page

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