Stocks: Worst drop of the year amid Libya turmoil

NEW YORK (CNNMoney) -- Libya's escalating political crisis sparked a sharp sell-off in U.S. stocks Tuesday, with the three major indexes posting their biggest one-day drops of the year, as oil prices continued to skyrocket.

Ongoing weakness in the housing market also added pressure after a report showed that national home prices fell 4.1% during the fourth quarter of 2010.

The Dow Jones industrial average (INDU) sank 178 points, or 1.4%. That was its worst decline since November. Wal-Mart (WMT, Fortune 500) was one of the biggest losers on the Dow, with shares down 3% after the retailer reported disappointing U.S. sales figures.

The S&P 500 (SPX) dropped 28 points, or 2.1%, and the tech-heavy Nasdaq (COMP) shed 78 points, or 2.7%. Those were the biggest drops since August for both indexes.

The CBOE volatility index (VIX), which is known as the VIX and is used to gauge fear in the market,jumped almost 30% Tuesday.

Market strategists seem to agree that the market is due for a short-term pullback given its steady rise since late August, and the spike in oil prices may be the catalyst to trigger that retreat.

Libya and oil: Oil prices spiked 6% Tuesday to settle at $95.42 a barrel as the trouble in Libya entered an eighth day. Earlier, oil prices came within $2 of $100 a barrel.

The turmoil in North Africa and the Middle East has roiled world financial markets, with stocks sinking across Asia and markets in Europe under pressure.

"We're facing a fear of the unknown," said Michael Sheldon, chief market strategist at RDM Financial Group. "Investors don't know how serious the political upheaval will become, or how high oil prices may end up going over the next several weeks."

The political strife in Libya is part of a chain of uprisings that started this year in Tunisia and spread to Egypt, where protesters deposed Hosni Mubarak earlier this month.

Until Libya, the movement in the Middle East had not impacted a major exporter of crude. Now, investors are concerned that the unrest could disrupt the flow of oil from other key producing countries.

World markets: European stocks fell on the ongoing concerns about Libya. Britain's FTSE 100 fell 0.3%, France's CAC 40 dropped 1.2% and the DAX in Germany lost 0.1%.

Asian markets ended sharply lower. The Shanghai Composite plunged 2.6%, the Hang Seng in Hong Kong tumbled 2.1% and Japan's Nikkei sank 1.8%.

Late Monday, Moody's changed its outlook on Japan's bond rating to negative. The credit ratings agency cited difficulties facing the government and dimming prospects to stem the country's rising debt burden, according to reports.

Economy: Consumer confidence, as measured by the Conference Board's monthly index, rose to a 3-year high in February.

Companies: Shares of Hewlett-Packard Co. (HPQ, Fortune 500) tumbled more than 6% in after-hours trading. The company reported a quarterly profit that rose from year-ago results and soundly beat Wall Street's forecasts. But the company's overall sales and outlook still disappointed.

Shares of Mentor Graphics (MENT) jumped 6.5% after billionaire investor Carl Icahn offered to buy the company for $17 per share, according to a letter obtained by the Wall Street Journal. The stock closed Friday at $14.52 per share.

Chesapeake Energy (CHK, Fortune 500) was up 5.2% after Australian resources company BHP Billiton (BHP) announced plans to buy Chesapeake's shale assets in Arkansas for $4.75 billion.

Shares of Barnes & Noble (BKS, Fortune 500) fell 14.4% after the bookstore suspended its quarterly dividend of 25 cents per share. Barnes & Noble also said it has decided not to issue sales or earnings guidance for the remainder of the year due to the unknown impact of Borders Group's bankruptcy filing.

Currencies and Bonds: The dollar rose against the euro and the British pound, but was weaker versus the Japanese yen.

The price on the benchmark 10-year U.S. Treasury rose, pushing the yield down to 3.46% from 3.62% late Friday.

-- The CNN Wire contributed to this report.