Stocks fall on jobless claims, Fed's bank warning

NEW YORK (Reuters) - Stocks fell on Thursday as investors fretted over a fresh sign of weakness in the job market and the Federal Reserve chairman's warning that the troubled housing sector could cause small-bank failures.

Financial stocks led the market lower after Ben Bernanke, in a second day of testimony before members of Congress, said small banks that invested heavily in real estate could collapse as the housing downturn drains their capital. The S&P financial index fell 3 percent as Bank of America Corp

declined 3.4 percent to $41.42.

Two reminders of the fragile state of the economy came earlier in the day as initial unemployment claims jumped last week while the latest estimate of economic activity, measured by gross domestic product, confirmed that growth was glacial in the final quarter of last year.

Bernanke's "comments about the finance sector did scare people to some extent," said Owen Fitzpatrick, head of the U.S. Equity Group at Deutsche Bank Private Wealth Management, in New York. "It reflects concerns around capital write-offs. If small banks are to go under, that could necessitate further write-downs in general."

Home builders' shares sank after the economic data, which pointed to the widening impact of the U.S. housing downturn. The Dow Jones U.S. home construction index tumbled 6.7 percent.

The Dow Jones industrial average slid 112.10 points, or 0.88 percent, to end at 12,582.18. The Standard & Poor's 500 Index fell 12.34 points, or 0.89 percent, to 1,367.68. The Nasdaq Composite Index lost 22.21 points, or 0.94 percent, to 2,331.57.

DELL AND AIG DROP AFTER THE BELL

After the close, shares of Dell Inc fell 4.2 percent to $20 after the computer maker reported a lower-than-expected profit.

Shares of American International Group Inc, the world's largest insurer, initially fell 5.28 percent to $47.50 after it reported a large quarterly loss on write-downs of derivatives related to bad mortgage investments.

AIG was among the biggest drags on both the Dow industrials and the S&P 500 during regular trading. The stock closed at $50.15, down 4 percent on the New York Stock Exchange.

HOME BUILDERS' SHARES TUMBLE

During the regular session, shares of D.R. Horton Inc, the largest U.S. home builder, dropped 9.2 percent to $15.52.

"I don't think we're quite at a bottom in terms of the economy," Fitzpatrick said, but he added that not all sectors of the economy are getting hit.

In his congressional testimony, Bernanke also said that the central bank will do what is needed to shore up the sputtering economy.

In the financial sector, JPMorgan Chase & Co. dropped 4.4 percent to $42.44 after two brokerages cut their earnings estimates.

Sprint Nextel Corp dropped 9.6 percent to $8.09 after the U.S. cell-phone service company reported a quarterly loss of $29.45 billion and scrapped its dividend.

Among the handful of Dow industrials in the plus column was Chevron, which gained 0.9 percent to end at $89.02.

U.S. crude for April delivery settled at a record high of $102.59 a barrel, up $2.95, or nearly 3 percent. In late electronic trading, the April contract touched $102.97.

In Nasdaq trading, Microsoft Corp slid 1.2 percent to $27.93. Bear Stearns cut its estimates for Microsoft's GAAP earnings per share for both the third quarter and fiscal 2008 after the European Commission levied a record fine against the company for failure to comply with antitrust sanctions.

Trading was moderate on the New York Stock Exchange, with about 1.5 billion shares changing hands, below last year's estimated daily average of roughly 1.9 billion, while on Nasdaq, about 2.11 billion shares traded, just below last year's daily average of 2.17 billion.

Declining stocks outnumbered advancing ones on the NYSE by a ratio of about 7 to 3 and on the Nasdaq, by about 2 to 1.

(Editing by Jan Paschal)