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Dow sheds 486 points: Post-election worries about the weak economy are front and center.

by Alexandra Twin, CNNMoney.com senior writer

NEW YORK (CNNMoney.com) — Stocks fell sharply Wednesday, with the Dow sliding as much as 513 points, as Barack Obama’s historic victory gave way to renewed worries about the struggling economy.

The Dow Jones industrial average (INDU) lost 486 points or 5%. The blue-chip average lost as much as 513 points earlier. The Standard & Poor’s 500 (SPX) index lost 5.3% and the Nasdaq composite (COMP) gave up 5.5%.

Investors were taking a classic “buy the rumor, sell the news” response to President-elect Barack Obama’s victory over John McCain, said Bill Stone, chief investment strategist at PNC Financial Services Group.

Stocks had rallied Tuesday as the election got underway. But that rally capped off a more than weeklong advance that left the S&P 500 up at least 18%, which set stocks up for a pullback on Wednesday.

The weakness was exacerbated by reminders about the battered economy Obama inherits. Two dour labor market reports underscored that weakness ahead of Friday’s big monthly jobs report. (Full story).

“I think yesterday there was a certain euphoria about the election, but today they are focusing on the market fundamentals, and they don’t look too good,” said William Rutherford, president of Rutherford Investment Management.

“It’s not going to be an easy market,” Rutherford said. “If we end up higher by the end of the year, it won’t be by much.”

Declines Wednesday were broad based, with all 30 Dow components falling, led by Bank of America (BAC, Fortune 500), Citigroup (C, Fortune 500), Intel (INTC, Fortune 500), Merck (MRK, Fortune 500) and Boeing (BA, Fortune 500).

Market breadth was negative. On the New York Stock Exchange, losers beat winners four to one on volume of 1.31 billion shares. On the Nasdaq, decliners topped advancers by over three to one as 2.18 billion shares.

In other markets, oil and gold prices slipped. The dollar was mixed versus other major currencies and Treasury bond prices rose, lowering the corresponding yields. Lending rates improved, as the credit market continued to thaw.

Election: Democrat Barack Obama was expected to win his hard-fought battle against Republican John McCain, based on polls leading up to the election. The one surprise for investors was perhaps the margin of victory, with Obama taking both the electoral college and the popular vote.

Many on Wall Street were also hoping that the Democratic-controlled Congress would not earn a filibuster-proof 60 seats, said Steven Goldman, market strategist at Weeden & Co. While that does not look to be the case, results are still trickling in.

Now that Obama has been elected, the focus is back on the economy – still in the throes of a housing market fallout and the worst financial crisis in years.

The government has taken steps to stabilize the financial markets, including passage of the $700 billion bank rescue plan, marshaled by Treasury Secretary Henry Paulson. Obama’s first big undertaking will be to pick a new Treasury Secretary to replace Paulson.

The announcement is expected to happen “sooner, rather than later,” said PNC’s Stone, and needs to happen quickly so that the new chief has a sufficient transition period.

Retreat after rally: With the recession in mind, investors opted to step back after propelling stocks, as represented by the S&P 500, more than 18% higher in just over a week.

Despite Wednesday’s retreat, stocks are likely to see a continuation of that rally for at least a few more weeks, said Weeden’s Goldman, as Wall Street recovers some of what it lost this fall. Between Lehman Brothers filing for bankruptcy on Sept. 15 and last week’s lows, the S&P 500 shed 32% as investors “anticipated the recession.”

Stocks aren’t primed to recover those losses in entirety, but should be able to recoup a bit more beyond the 18% already regained, Goldman said.

“We were probably the most oversold we had been since October 1974,” Goldman said. By looking at other recent bear market bottoms, including the period in 2002-2003, he estimates that the current advance has a little more room to go.

However, as in previous market bottoms, stocks could end up “retesting” those lows over a period of several months, before really moving forward.

“If you go back to all the significant bear markets, you have a really critical retest before the end,” said Rob Lutts, chief investment officer at Cabot Money Management. “We haven’t really had that yet and I think we will.”

Jobs: The labor market continued to get hammered in October, as demonstrated by two reports released Wednesday.

Job cuts announced by U.S. employers rose to 112,884 in October from 95,094 in September according to outplacement firm Challenger, Gray & Christmas. That marked the highest number of layoffs in almost four years.

Another report, from payroll services firm ADP, showed that the private sector lost 157,000 jobs last month, up from a revised drop of 26,000 last month.

The reports were especially worrisome ahead of Friday’s big government report. That report is expected to show that employers cut 200,000 jobs from their payrolls in October. Meanwhile, the unemployment rate, which is generated by a separate survey, is expected to rise to 6.3% from 6.1% the previous month.

Economy: This week has already brought stark signs of the recession, including dour reports on manufacturing and factory orders, and the worst monthly auto sales in 25 years.

On Wednesday, the Institute for Supply Management’s October reading on the services sector of the economy fell to 44 from 50.2 in the previous month, missing forecasts and pushing the index into near-recessionary territory.

Other markets: In global trade, Asian markets rallied and European markets ended lower.
The dollar gained against the euro and fell versus the yen.

COMEX gold for January delivery plunged $14.90 to settle at $743.70 an ounce.

U.S. light crude oil for December delivery fell $5.23 to settle at $65.30 a barrel on the New York Mercantile Exchange. Losses accelerated after the weekly inventories report showed crude stockpiles were unchanged from the previous week.

Gasoline prices fell another 2.6 cents to a national average of $2.365 a gallon, according to a survey of credit-card activity released Wednesday by motorist group AAA. The decline marks the 49th consecutive day that prices have decreased. During that same time period, prices dropped by $1.49 a gallon, or 38.6%.

Lending rates: The credit market continued to improve. The 3-month Libor fell to 2.51% from 2.71% Tuesday, hitting its lowest point in almost four years, according to Bloomberg.com. Overnight Libor fell to 0.32% from 0.38%. Libor is a key interbank lending rate.

The yield on the 3-month Treasury bill, seen as the safest place to put money in the short term, fell to 0.39% from 0.47% late Tuesday, with investors preferring to take a small return on their money than risk the stock market. Last month, the 3-month yield reached a 68-year low around 0% as investor panic peaked.

Treasury prices rose modestly, lowering the yield on the benchmark 10-year note to 3.68% from 3.72% late Tuesday. Treasury prices and yields move in opposite directions.