The market saw a brief afternoon reprieve after Bear Stearns Cos. said that all liquidations of assets from its two struggling hedge funds, which are tied to the distressed subprime mortgage market, would be put on hold.
But "investors prefer to sell shares rather than run the risk of returning from the weekend to bad news and volatile markets," said Frederic Ruffy, analyst at Optionetics.
The Dow Jones Industrial Average ended down 185 points at 13,360, as 29 of its 30 components were in the red, led by Citigroup Inc. , Microsoft Corp. , Exxon Mobil Corp. and Intel Corp. .
The Dow posted a 2% drop on the week.
"There's lots of volatility in the market right now," said Mike Malone, trading analyst at Cowen & Co. "More than anything, it's concerns with what's taking place in the credit markets with all the issues about hedge funds and subprime mortgages."
"Until investors get an idea of how this could play out, we'll continue to be volatile," Malone said.
The S&P 500 index fell 19 points to 1,502 on Friday. The broad index lost 1.9% on the week.
The Nasdaq Composite dropped 28 points to 2,589. The technology-heavy index lost 1.4%.
Amid concerns about rising rates and hedge fund trouble, the initial public offering of private-equity firm Blackstone Group created a sideshow for the market.
Blackstone shares jumped 13% to $35.06. The offering raised $4.13 billion early Friday by pricing at the top of its estimated range as the sixth-richest IPO in U.S. history.
Trading volumes showed 2.6 billion shares on the New York Stock Exchange and 2.7 billion shares traded on the Nasdaq stock market. Declining issues topped gainers by 3 to 1 on the NYSE and by 20 to 9 on the Nasdaq.
By sector, broker/dealers and banks led the declines, along with natural gas , utilities and semiconductors . Oil-services stocks were among the few rising.
Among leading tech shares, eBay Inc. gained 2.7%. According to the New York Times, it's planning to return to the Chinese auction market this summer.
U.S. stocks finished higher after a volatile session Thursday, as a drop in crude-oil prices helped to offset concerns about rising bond yields and allowed the market to rebound from the previous session's stumble.
Crude oil regained some ground on Friday, adding 49 cents to close at $69.14 a barrel, amid concerns over the impact of a strike in Nigeria on production.
The move also helped gold regain some ground Friday, adding $2.80 to close at $657 an ounce.
Expectations that global growth is fueling inflation and putting upward pressure on interest rates has capped the advance of stocks in recent weeks.
U.S. bond yields have risen above 5%, offering a risk-free alternative to stocks, while also lifting borrowing costs for consumers and businesses.
But on Friday, investors sought the safe haven of Treasury bonds amid nervousness in the stock market and concerns about hedge funds.
The benchmark 10-year bond reversed early losses to finish up 12/32 at 95 3/32, while its yield dropped to 5.141%.
Rates overseas, hedge fund woes
Investors also remain wary that Chinese financial authorities will continue to announce more tightening measures, possibly over the weekend.
Declines were seen in Asia and Europe, with the Shanghai Composite losing over 3% amid fears of an imminent interest rate hike.
"In the options market, some of the financials are seeing action amid concerns about wider credit problems," said Optionetics' Ruffy.
Low interest rates globally over the past 5 years have allowed an unprecedented surge n financial liquidity, which central banks the world over are still busy mopping up by lifting interest rates.
Fast-money investors, such as hedge funds, have heavily borrowed money at low rates to invest in higher-yielding assets. Private-equity funds have also borrowed heavily to buy out publicly-traded companies, fueling overall gains in the stock market.
But with rising rates, there are now concerns that the party may soon be over, according to Cowen's Malone.
"It's no secret that there's been a lot of leverage," Malone said. "But if investors begin to unwind their trades to reduce their leverage, that could have a big impact on markets."
Jitters in the credit markets were fueled by the collapse of two Bear Stearns hedge funds which invested in subprime mortgages. Barclays on Friday said it has "some exposure" to such funds but that any loss it takes won't be material.
Bear Stearns, meanwhile, plans to take out $3.2 billion in loans to stop creditors from seizing assets of its money-losing hedge funds, Bloomberg News reported Friday, citing people with knowledge of the proposal.
Merrill Lynch already has seized $850 million of securities that Bear Stearns used as collateral, according to reports.
Shares of broker/dealers fell broadly on Friday.
By Nick Godt