The inflation data boosted hopes that the Federal Reserve will cut interest rates to boost a slowing economy and initially helped offset disappointing results from Home Depot Inc. and Wal-Mart Stores.
"The [inflation] data was really positive and it turned us off of the concerns over Wal-Mart and Home Depot," said Kevin Kruszenski, head of trading at KeyBanc Capital.
Still, the Dow Jones Industrial Average finished up just 37 points at 13,383, losing most of a 140-point gain that earlier led the Dow above 13,400 for the first time.
The Dow still closed at a record closing high, lifted by shares of of General Motors Corp , Alcoa Inc. , 3M Co. and Verizon Communications .
Now that earnings season is over - and the key inflation report is out of the way," the main concern on the minds of investors is the market's lofty levels," said Peter Cardillo, chief market economist at Avalon Partners.
"We need a new catalyst, some extraordinarily positive catalyst that would lead the market to continue rallying," Cardillo said. "But there's nothing immediately on the horizon."
Home Depot fell 1.8%. The home-improvement retailer said profits fell 30% in the first-quarter, coming below expectations. It also said annual earnings would be at the low end of guidance amid a challenging housing market.
Wal-Mart Stores lost 0.5%. The retail giant's first-quarter earnings met lowered forecasts but its second-quarter outlook came at the lower end of Wall Street expectations.
The broad S&P 500 index dropped 1.9 points to 1,501, while the Nasdaq Composite fell back 21.1 points to 2,525.
Trading volumes showed 1.6 billion shares exchanging hands on the NYSE and 2.2 billion on the Nasdaq stock market. Declining issues topped gainers by 19 to 12 on the NYSE and by 21 to 8 on the Nasdaq.
Agilent Technologies jumped 5.2% after its current quarter earnings per share and revenue outlook topped analyst estimates.
Yahoo! Inc. fell 1.7% after after it announced that Blake Jorgensen, a founder of Thomas Weisel Partners, will become the company's chief financial officer on June 4.
Slow growth, slow inflation
Stocks first jumped after news that the consumer price index rose 0.4% in April, below the 0.5% expected by Wall Street economists.
Excluding food and energy prices, the so-called core CPI rose 0.2%, in line with expectations, and cutting the annual gain in the core down to a one-year low of 2.3%.
"The market is relieved that the core rate of inflation hasn't edged up," said Peter Cardillo, chief market economist at Avalon Partners. "It's bringing us closer to where the Fed would like the core rate to be. The next thing the market will want to know is that a Fed cut is coming."
Even with inflation out of the way, the key remains whether the slumping housing market eventually hits employment and consumption, economists believe.
Also on Tuesday, the National Association of Home Builders said that tightening lending standards further shook homebuilders confidence. The NAHB's housing market index fell back to a 16-year low.
Still, the shares of homebuilders were only mildly affected by the report, with KB Home falling 0.9%, while Toll Brothers Inc. rose 0.2% and Hovnanian Enterprises dipped 0.1%.
Meanwhile, news that conditions for New York area manufacturers improved slightly in May, in line with expectations, had little impact on trade.
The dollar fell against major rivals after the CPI data.
Treasury bonds finished lower, reversing earlier gains, with the benchmark 10-year Treasury bond losing 4/32 to 98 10/32 in price, while ts yield, which moves inversely, rose to 4.689%.
Oil futures rallied 71 cents to close at $63.17 a barrel. Traders weighed worries about tight U.S. gasoline inventories ahead of tomorrow's data releases, along with concerns over oil supply disruptions in Nigeria.
Gold futures also rallied, gaining $4.40 to close at $674.50 an ounce.
More deal news
The market continued to be fed with more deal news on Tuesday.
On Monday, the Dow industrials gained while the rest of the market struggled. News that DaimlerChrysler AG agreed to sell 80% of Chrysler to a private equity firm had helped buoy the auto sector, including rivals General Motors Corp. and Ford Motor Co. .
On Tuesday, Reuters backed a $17.2 billion offer from Thomson Corp. that valued the financial news and data provider at $82.23 per share. Importantly, a foundation designed to preserve Reuters news integrity which holds blocking power opted to back the deal as well.
American International Group agreed to pay $813 million, or $22 a share, for the roughly 40% it doesn't already own in 21st Century Insurance Group .
Germany's HeidelbergCement agreed to buy Britain's Hanson in a $15.8 billion deal in the building materials business.
Beckman Coulter won't lift its $90-a-share bid for Biosite , which has backed a $92.50 a share offer from Inverness Medical .
By Nick Godt