* Obama shows flexibility on short-term debt limit hike
* Talisman Energy climbs on Icahn stake
* PHH exploring unit split - sources
* J.C. Penney jumps on turnaround update
* Indexes off: Dow 0.27 pct, S&P 0.22 pct, Nasdaq 0.19 pct
By Chuck Mikolajczak
NEW YORK, Oct 8 U.S. stocks dipped slightly on Tuesday despite signs of slight progress to resolve the fiscal standoff in Washington, although no agreement appeared to be likely soon.
With the partial U.S. government shutdown in its second week and only nine days left for Congress to raise the U.S. debt ceiling, President Barack Obama said he would accept a short-term increase to avoid a default.
A Senate aide said Republican Senator Rob Portman, who is influential on budget matters, floated a plan to cut federal spending and reform the U.S. tax code as part of a broader deal to reopen shuttered government agencies and raise the debt ceiling.
"In this type of environment, pre-earnings season where it is headline driven by a market bludgeoned with continued sound bites about the shutdown, it's not a surprise to see markets make these smaller moves," said Sal Arnuk, co-manager of trading at Themis Trading in Chatham, New Jersey.
"What is really at stake is a tug-of-war going on because investors don't know if they want to avoid getting caught up in a crisis-driven selloff versus missing a resolution rally."
The shutdown has led to few economic data releases, leaving investors to focus on the earnings-reporting season. However, earnings are more likely to affect individual companies than drive marketwide moves.
After Tuesday's market close, former Dow component Alcoa Inc will report earnings as will KFC parent company Yum! Brands Inc.
The longer the government shutdown continues, the greater the damage to the economy, according to analysts, increasing the probability the Federal Reserve will leave its stimulus measures in place.
The Dow Jones industrial average fell 39.96 points or 0.27 percent, to 14,896.28, the S&P 500 lost 3.68 points or 0.22 percent, to 1,672.44 and the Nasdaq Composite dropped 7.077 points or 0.19 percent, to 3,763.3.
McKesson shares rose 5.7 percent to $136.99 as the best performer on the S&P 500 after Dow Jones Newswires reported the company was in advanced talks to take over Celesio in a possible 3.74 billion euro ($5.08 billion) deal.
PHH Corp is exploring splitting up its mortgage and auto fleet leasing businesses and selling each of the units, three people familiar with the situation told Reuters on Monday. Its shares fell 2.5 percent to $25.26.
J.C. Penney Co Inc rose 2.5 percent to $7.90 after the struggling retailer reported a smaller decline in same-store sales for September compared with August and said it was seeing positive signs in many areas of its business.
U.S.-listed shares of Talisman Energy Inc advanced 2 percent to $13 after activist investor Carl Icahn said he had purchased about 61 million shares of the underperforming Canadian oil producer and may seek a seat on the company's board.