Stocks battered for 3rd day

NEW YORK (CNNMoney.com) -- Stocks tumbled for a third straight day Thursday as surging Treasury yields, higher mortgage rates and hawkish comments from bond guru Bill Gross exacerbated bets on Wall Street that the Federal Reserve may have to raise interest rates later this year.

The Dow Jones industrial average (down 198.94 to 13,266.73, Charts) tumbled nearly 200 points, or about 1.5 percent, bringing its three-day loss to 413 points, or about 3 percent.

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The broader S&P 500 index (down 26.66 to 1,490.72, Charts) sank nearly 1.8 percent, or 3.2 percent for the three-day period. The tech-driven Nasdaq composite (down 45.80 to 2,541.38, Charts) fell around 1.8 percent Thursday and has lost roughly 3 percent for the three days.

The Russell 2000 (down 15.89 to 825.32, Charts) small-cap index lost 1.9 percent Thursday and lost 3.5 percent for the three days.

"This is the summer correction everyone's been looking for," said Tim Hartzell, CIO, Kanaly Trust Company.

He was referring to expectations on Wall Street that the rally was due for a bit of a pullback - and the seasonal tendency for summer to bring sub-par stock returns, due to low trading volume and more volatility.

Hartzell said the rally had been vulnerable to this kind of a retreat in mid-May, but then got recharged by "the speeding car that is private equity." He said that after the summer, he still expects to see the classic fourth-quarter stock market run-up.

National Semiconductor (Charts) was among the stocks likely to be active Friday. After the close of trade Thursday, the chip maker reported higher quarterly earnings that topped estimates, boosted its first-quarter revenue forecast and announced a $2 billion stock buyback plan. National Semi shares jumped nearly 10 percent in extended-hours trading.

Friday's one economic report of note is the April trade balance, expected to have narrowed to $63.5 billion from $63.9 billion in March, according to a consensus of economists surveyed by Briefing.com.

After scratching out modest gains Monday, stocks fell sharply Tuesday, Wednesday and Thursday as investors bet that interest rates are set to rise, before they fall.

Sparking the bets: cautious comments from Federal Reserve officials, signs of rising inflation and surging borrowing costs both at home and abroad.

PIMCO's Bill Gross added fuel to the fire late Thursday when he said that the bond market is entering a bear market.

"Based on the last employment report and other recent economic info, it's clear that we are not getting an interest rate cut anytime soon," said Charles White, chief strategist at ThomasLloyd Global Asset Management. "We've got crude up at probably $70 a barrel in a few months and we saw a big technical support in the 10-year note yield give way today."

White said that all these factors were dragging on stocks Thursday and could leave the S&P 500 ultimately down more than 5 percent from its recent high by the time the losses dry up. However, he said he would be surprised if the selloff proved to be more than that.

That's partly because the declines were not unexpected considering the recent run-up that sent the Dow, S&P 500 and Russell 2000 to all-time highs, and the Nasdaq to a 6-year high.

Since tumbling in late February and early March on worries about slower global growth, stocks have been on the rise, thanks to better-than-expected earnings, corporate deals and stock buyback plans.

Those developments remain in place and are likely to keep a floor on any stock selloff in the weeks ahead.

"If you're a bear, you don't have a whole lot of ammo," White said. "LBOs and stock buybacks go on. There's ample money out there. From a supply and demand standpoint, there's still support for U.S. equities."

Treasury prices slumped on bets that the Federal Reserve is more likely to boost rates before cutting them. In addition, bond investors were reacting to a jump in mortgage rates to a 10-month high.

The slide boosted the yield on the benchmark 10-year note to 5.13 percent from 4.96 percent late Wednesday, making Thursday the first day the 10-year note has surpassed 5 percent, a key psychological level, since last summer. The yield briefly hit 5.14 percent, an 11-month high. Bond prices and yields move in opposite directions.

The run up in bond yields both raises rate hike worries and the threat of bonds becoming a more competitive investment than stocks.

In currency trading, the dollar rose versus the euro and the yen.

U.S. light crude oil for July delivery jumped 97 cents to settle at $66.93 a barrel on the New York Mercantile Exchange over concerns about exports from the Middle East after Turkish troops raided Iraq.

COMEX gold for July delivery fell $9.40 to settle at $665.20 an ounce, falling with other dollar-traded commodities.

In economic news, April wholesale inventories rose 0.3 percent, as expected, after climbing 0.4 percent the previous month.

Market breadth was negative. On the New York Stock Exchange, losers beat winners by 11 to 1 on volume of 1.91 billion shares. On the Nasdaq, decliners topped advancers by nearly 4 to 1 on volume of 2.38 billion shares.

Stock declines were broad based, with all 30 Dow stocks sliding, led by Microsoft (down $0.67 to $29.62, Charts, Fortune 500), 3M (down $1.74 to $84.88, Charts, Fortune 500), Alcoa (down $0.92 to $38.93, Charts, Fortune 500), Walt Disney (down $0.65 to $34.26, Charts, Fortune 500) and AT&T (down $0.86 to $39.52, Charts, Fortune 500).

Rate-sensitive stocks continued to slump for the third session, with the Dow Jones Utilities (down 16.45 to 487.46, Charts) average losing 3.3 percent.

Homebuilders slumped on the rise in interest rates and in response to Meritage Homes (down $1.85 to $31.25, Charts), which warned that 2007 results won't meet estimates due to weaker-than-expected April and May sales.

The Philadelphia Housing Sector (down $8.22 to $222.86, Charts) index lost 3.6 percent.

A variety of railroads, truckers and airlines sank, lowering the Dow Jones Transportation (down 124.07 to 5,034.91, Charts) average by 2.4 percent.

Stock investors also parsed a variety of May sales reports from the nation's retail chains. In general, sales rebounded modestly from April's weakness, thanks to warmer weather and early summer discounts. But spiking gas prices took a chunk out of any recovery.

Among the highlights: No. 1 retailer Wal-Mart Stores (down $0.99 to $49.76, Charts, Fortune 500) said sales at stores open a year or more, a retail sales measure known as same-store sales, rose 1.1 percent, at the low end of its forecast and short of analysts' estimates.

The Dow component also issued a cautious June sales forecast, sending shares 2 percent lower.