Wall Street's rally is back on hold as General Motors took another step toward bankruptcy court and investors grew worried about rising borrowing costs.
The Dow Jones industrial average fell nearly 175 points Wednesday, erasing most of a rally from the day before as a jump in government bond yields fanned worries that higher interest rates will sap strength from the economy before it has a chance to recover.
A steep drop in the price of the benchmark 10-year Treasury note pushed its yield up to 3.72%, up from 3.55% late Tuesday and the highest level since last November. That increase touched off fears that the government won't be able to hold down interest rates long enough to allow the economy to recover.
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."
Investors are becoming concerned that even strong demand at times for government debt isn't leading to improvements in Treasury prices. The Federal Reserve has said it would buy up to $300 billion in Treasury debt this year as part of its efforts to keep borrowing costs low.
The drop in bond prices followed a well-received auction of $35 billion in five-year notes, part of the $101 billion in debt the government is issuing this week. Some traders fear demand could weaken as the government issues massive amounts of debt to fund its financial and economic rescue programs.
"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 fell 173.47, or 2.1%, to 8,300.02 after rising 196 points on Tuesday. The broader Standard & Poor's 500 index fell 17.27, or 1.9%, to 893.06, and the technology-laden Nasdaq composite index fell 19.35, or 1.1%, to 1,731.08.
On Tuesday, stocks soared on the Conference Board's surprisingly high reading of consumer confidence. The May index was the highest since September. Consumer sentiment does not always correspond to consumer spending, but the data nevertheless fueled investors' hopes for an economic rebound later this year.
The Dow is 26.8% above the lows it reached in early March, but still 41.4% below the record high it hit in October 2007.
Wednesday's retreat also came as General Motors 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.
GM slid 29 cents, or 20.1%, to $1.15.