Stocks sink on commodities' slide, Merrill nerves

By Justin Grant

NEW YORK (Reuters) - Stocks fell on Wednesday as plunging gold and oil prices drove energy and mining shares lower, and speculation that Merrill Lynch & Co may need to take more write-downs deflated growing optimism that the credit crisis was abating.

The drop of more than 2 percent in all three major stock indexes came a day after the S&P 500 rang up its biggest one-day jump in more than five years following stronger-than- expected earnings from investment banks and the Federal Reserve's deep cut in official interest rates.

Gold prices slid in their biggest one-day drop in nearly two years and oil posted its worst slide in seven months, weighed down by persistent worries about the U.S. economy's health. The Standard & Poor's index of materials stocks .GSPM dropped 6.3 percent.

A lawsuit filed by Merrill Lynch MER.N against a bond insurer fanned speculation the big broker and investment bank may not have enough protection against losses from its exposure to securities at the heart of the credit crisis. That may lead to more write-downs.

"Commodities are also getting tanked here. That's a positive for the market, but it also hurts energy and other stocks," said Todd Leone, head of listed trading at Cowen & Co. in New York. "We had a great rally yesterday and probably came too far. There are rumors about Merrill. All brokerage stocks are down."

The Dow Jones industrial average .DJI sank 293.00 points, or 2.36 percent, to 12,099.66. The Standard & Poor's 500 Index .SPX dropped 32.32 points, or 2.43 percent, to 1,298.42. The Nasdaq Composite Index .IXIC shed 58.30 points, or 2.57 percent, to 2,209.96.

Shares of Merrill Lynch fell 11.1 percent to $41.45, a drop that Joe Saluzzi, co-manager of trading at Themis Trading, attributed to rumors about further write-downs.

"Either way something stinks over there and the way the market has been lately ... people shoot first and ask questions later. Nothing has been verified by anybody," Saluzzi said.

FEAR FACTOR

Energy shares were among the biggest drags on the market as the price of oil slid nearly $5 a barrel after worries about the economy overshadowed bullish weekly data.

An index of energy shares .GSPE fell 5.4 percent -- its biggest one-day percentage drop since October.

Exxon Mobil shares were the S&P's biggest laggard, falling 4.6 percent to $84.43, while ConocoPhillips (COP.N) slid 6 percent to $73.61 and Chevron (CVX.N) fell 4.9 percent to

$81.89.

Meanwhile, the Chicago Board of Options Exchange Volatility Index .VIX -- Wall Street's favorite fear gauge -- jumped 15.7 percent a day after its fourth-biggest daily drop in 14 years.

Shares of Alcoa Inc (AA.N) fell 7.7 percent to $35.62 and Caterpillar Inc (CAT.N) dropped 4.1 percent to $73.73.