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Slumping Treasury bond prices send stocks lower

US stock market put its rally back on hold as investors worried about rising borrowing costs.

The Dow Jones industrial average fell almost 175 points yesterday, erasing most of the previous day's rally as a jump in government bond yields fanned concerns that higher interest rates will sap strength from the economy.

A steep drop in the price of the benchmark 10-year Treasury note pushed its yield up to 3.75 percent from 3.55 percent late Tuesday and to the highest level since November. Bond investors were selling on concerns that the huge amount of debt the government is selling to fund its bailout programs will ultimately keep Treasury prices down.

Along with increasing borrowing costs for the government, rising yields on Treasury debt could hamper an economic recovery since they are used as benchmarks for home mortgages and other kinds of loans. Higher mortgage rates could delay a recovery in the battered housing market.

"The equity market is getting worried about the 'green shoots.' I think the deer have nipped off a few and I think a few turned out to be weeds," said Hank Herrmann, chief executive of Waddell & Reed. Herrmann was referring to early positive signs in the economy that Federal Reserve Chairman Ben Bernanke has called "green shoots."

While Wall Street has been rallying for most of the past three months on those early signs of recovery, it has also been vulnerable to unexpected turns such as the jump in Treasury yields.

"Stocks are following bonds," said John Brady, senior vice president of global interest rate products at MF Global. "Will the economy grow and expand vigorously in the face of sustained higher interest rates?"

The Dow lost ground for the fifth time in six days, falling 173.47, or 2.1 percent, to 8,300.02 after rising 196 points on Tuesday. The Standard & Poor's 500 index fell 17.27, or 1.9 percent, to 893.06, and the technology-laden Nasdaq composite index fell 19.35, or 1.1 percent, to 1,731.08.

On Tuesday, stocks soared after an upbeat reading on consumer confidence lifted hopes for an economic rebound later this year.

The Dow is still 26.8 percent above the lows it reached in early March, but 41.4 percent below the record high it hit in October 2007.

The drop in bond prices Wednesday followed a well-received auction of US$35 billion in five-year notes and a day ahead of an auction of US$26 billion in 7-year notes. All told, the government plans to turn out US$101 billion in debt this week.

Some traders fear demand for Treasurys could weaken as the government issues massive amounts of debt to fund its financial and economic rescue programs. The Federal Reserve has said it would buy up to US$300 billion in Treasury debt this year as part of its efforts to keep borrowing costs low. But investors are now concerned that the central bank isn't buying as much as some had hoped.

Wednesday's stock market retreat also came as General Motors Corp. said not enough bondholders agreed to swap their debt for company stock, meaning the automaker is almost certainly headed for bankruptcy protection. GM has until Monday to either finish restructuring outside of court or file for Chapter 11. Value in its stock would be wiped out.

GM slid 29 cents, or 20.1 percent, to US$1.15.

The prospect of a GM bankruptcy also made it more likely that the company would be plucked from among the 30 stocks that make up the Dow industrials. GM's tumbling stock price has hurt the index as shares fell from as high as US$18.18 last June.

Many investors have been expecting GM to enter bankruptcy protection for some time, but the reality of it happening could still deal Wall Street a psychological blow.

Some analysts say the market should be able to weather a GM filing. Mark Coffelt, portfolio manager at Empiric Funds, thinks Wall Street's recovery since hitting 12-year lows in early March leaves stocks better suited to shrug off GM's troubles.

"The market has come a long way in a short period. I would expect it to settle out a little bit," he said, predicting more back-and-forth days rather than more big gains in a short period.

Investors on Wednesday also worried about housing and financial stocks.

The National Association of Realtors said sales of previously occupied homes rose from March to April as buyers hunted for bargains. But the 2.9 percent increase in sales came as the number of unsold homes on the market at the end of April rose 9 percent, meaning a 10-month supply at the current sales pace.

Financial stocks fell after the Federal Deposit Insurance Corp. said the number of troubled banks jumped to the highest level in 15 years during the first quarter.

Agricultural products maker Monsanto Co. fell US$5.37, or 6.3 percent, to US$79.88 after saying it expects to meet the low end of its fiscal 2009 earnings forecast.

Flash-memory maker SanDisk Corp. renewed a licensing agreement with South Korea's Samsung Electronics Co. SanDisk jumped US$1.94, or 14.3 percent, to US$15.52.

In other trading, the Russell 2000 index of smaller companies fell 10.45, or 2.1 percent, to 489.86.

About two stocks fell for every one that rose on the New York Stock Exchange, where consolidated volume came to 5.5 billion shares, essentially flat with Tuesday.

The dollar was mixed against other major currencies. Gold prices edged higher.

Light, sweet crude rose US$1 to settle at US$63.45 per barrel on the New York Mercantile Exchange, its highest level since early November.

Overseas, Britain's FTSE 100 rose 0.1 percent, Germany's DAX index rose 0.3 percent, and France's CAC-40 added 0.8 percent. Japan's Nikkei stock average rebounded 1.4 percent.


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