Stocks Spooked by Portugal Credit Downgrade, Euro Debt Fears

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Stocks closed broadly lower Wednesday after Fitch Ratings cut Portugal's sovereign debt rating a notch to AA- and warned of further possible downgrades if the country doesn't drastically curtail its mounting budget deficits. A record-low reading on new homes sales also weighed on equities even as the manufacturing sector continued to recover.

The blue-chip Dow Jones Industrial Average ($INDU) fell 53 points, or 0.5%, to settle at 10,836, while the broader S&P 500 ($INX) dropped six points, or 0.6, to 1,168. The tech-heavy Nasdaq Composite ($COMPX) shed 16 points, or 0.7%, to close at 2,399.

Fitch's downgrade of Portugal's credit rating comes as eurozone leaders haggle over Germany and the International Monetary Fund's roles in a financial rescue package for Greece. Portugal, like Greece, is one of the so-called PIIGS of Europe, shorthand for the nations of Portugal, Ireland, Italy, Greece and Spain, all of which are struggling with mounting fiscal woes.

The downgrade ignited a selloff in European equities that spread to the U.S. market, making the latest readings on housing and durable goods something of a sideshow, says Alan Valdes, chairman of U.S. Huade International. "The Greek debt crisis is already priced into the market and the home sales numbers and durable goods data came in pretty much as expected" Valdes says. "Today's selling is all about Portugal."

Mixed Signals

The housing sector took another step backward in February -- new-home sales, weighed down by blizzards and weak buyer demand, unexpectedly fell 2.2% to a record-low annual rate of 308,000, the Commerce Department said Wednesday. Economists had expected February new home sales to rise to a 315,000 annualized rate, according to a Bloomberg survey. It was the fourth straight monthly decline for new home sales, and the streak will raise doubts among some economists on the likelihood of a recovery in the housing sector this year.

In a better reading on the economy, durable goods orders rose a seasonally-adjusted 0.5% in February, the Commerce Department said. It's the forward-looking indicator's third straight monthly rise, and more evidence that the nation's manufacturing sector is continuing to recover. Further, January's orders were revised up to 3.9% from the previously-estimated 2.6% gain. Also, excluding the often-volatile transportation component, the core rate rose 0.9% in February after falling 0.6% in January Economists surveyed by Bloomberg predicted February durable goods orders would rise by 1.0%.

But traders are fretting about the debt crisis in Europe and the implications that a strong dollar could have on equities and exports, Valdes says. The euro fell sharply on the rating cut, hitting a 10-month low against the dollar and dipping as far as $1.3333 early Wednesday. The U.S. Dollar Index, which measures the greenback against a trade-weighted basket of six major currencies, jumped more than 1% Wednesday, a large move in currency terms.

More Downgrades Possible

Fitch lowered Portugal's sovereign debt rating one level to AA-, from AA, because its government deficit rose to 9.3% of gross domestic product last year, far greater than the 6.5% Fitch had modeled in September. Furthermore, Fitch says its outlook is negative, meaning it could move to cut the country's rating again unless its government changes course.

Portugal, already facing the same type of deep budget cuts seen in Greece, will have to tighten its belt even further to stave off another rating reduction. Fitch says the nation will need to implement "sizable" measures in order to meet the eurozone deficit target of 3% of GDP by 2013 as "further fiscal and/or economic underperformance in 2010 and 2011 could lead to another downgrade."
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