Oct. 3 (Bloomberg) -- The Dow Jones Industrial Average fell as a report showing a pickup in manufacturing and prices paid by companies raised concern that the Federal Reserve will need to keep increasing interest rates to fight inflation.

Producers of raw materials such as Alcoa Inc. and other companies whose earnings are tied to economic growth dropped. Financial shares including American International Group Inc. declined on concern that higher rates will hurt profitability.

``People are focusing on the fact that with that strength that you're going to see continued support for higher rates,'' said Caryn Zweig, who helps manage $600 million at Abner, Herrman & Brock Inc. in Jersey City, New Jersey. ``The Fed would be more inclined to not go on hold here.''

The Dow average fell 17.21, or 0.2 percent, to 10,551.49 at 11:40 a.m. in New York after gaining as much as 0.4 percent earlier. The Standard & Poor's 500 Index lost 1.05, or 0.1 percent, to 1227.76.

A rally in chipmakers including Intel Corp. helped lift the Nasdaq Composite Index, which added 7.36, or 0.3 percent, to 2159.05.

Manufacturing Report

Manufacturing unexpectedly accelerated in September, suggesting the recovery from two U.S. Gulf Coast hurricanes will be rapid. The Institute for Supply Management said its factory index rose to 59.4 from 53.6 in August. Readings greater than 50 indicate growth. Economists expected a reading of 52 in a Bloomberg News survey.

The institute's prices paid index, which measures how much companies pay for raw materials and supplies, rose to 78 in September from 62.5 for the biggest jump in 15 years.

Last month, the Fed signaled it will maintain its ``measured'' pace of interest-rate increases to keep inflation under control.

Gauges of materials and industrial companies declined 0.6 percent and 0.5 percent, respectively, for the worst performances among 10 groups in the S&P 500.

Alcoa, the world's largest aluminum maker, slid 37 cents to $24.05. Phelps Dodge Corp., the No. 3 copper producer, retreated $1.26 to $128.67.

General Electric Co., the world's No. 2 company by market value, lost 29 cents to $33.38. Boeing Co., the second- largest commercial-aircraft maker, fell 55 cents to $67.40.

`Difficult Quarter'

``I'm usually optimistic, but I think the fourth quarter will be a difficult quarter just based on what the Fed is doing and earnings that will be hurt by the high cost of energy,'' said Andrew Seibert, who helps manage $1.2 billion at S&T Wealth Management in Pittsburgh.

Shares of insurers and banks slid on concern an increase in interest rates will boost their costs. Higher rates reduce the value of bonds owned by banks, brokers and insurers, and also crimp demand for mortgages and loans.

AIG, the No. 1 insurer, lost 55 cents to $61.41. Fannie Mae, the biggest U.S. mortgage finance company, decreased $1.20 to $43.62.

Four stocks rose for every three that fell on the New York Stock Exchange. Some 581 million shares changed hands on the Big Board, in line with the same time a week ago.

An S&P 500 gauge of semiconductors gained 1.4 percent for the best performance among 24 industry groups in the S&P 500. Worldwide semiconductor sales climbed 1.7 percent to $18.6 billion in August from a year ago, and markets for chips are ``strong'' even amid concern about energy prices and the impact of hurricanes in the U.S., the Semiconductor Industry Association said.

Intel, the world's biggest semiconductor maker, increased 23 cents to $24.88. Advanced Micro Devices Inc., Intel's smaller rival, rallied 58 cents to $25.78.

Staples

Staples Inc., the world's largest office-supplies retailer, advanced 54 cents to $21.86. The company's sales are tied to employment and business spending, not the consumer, and it has the largest number of untapped U.S. markets of its competitors, said Goldman, Sachs & Co. analyst Matthew Fassler in a note. He lifted the shares to ``outperform'' from ``in-line.''

NRG Energy Inc. rallied $1.83 to $44.43. The Princeton, New Jersey-based power company agreed to buy electricity producer Texas Genco Holdings LLC for $5.8 billion.

JDS Uniphase

JDS Uniphase Corp. fell 9 cents to $2.14 after saying that difficulty attracting managers may have a ``material adverse effect'' on its business. The world's largest maker of parts for fiber-optic networks said in a Sept. 30 regulatory filing that it may be unable to recruit the employees it needs in accounting, finance and other areas.

Red Hat Inc. slipped 53 cents to $20.66. The world's biggest distributor of Linux computer software has a market value of almost $4 billion, which is 17 times sales and 10 times book value, not ``modest'' multiples, wrote columnist Alan Abelson in Barron's.

Lennar Corp. rose $1.28 to $61.04. The third-largest homebuilder by stock-market value will replace Gillette Co. in the S&P 500 at the close of trading today. Lennar also said it boosted its annual dividend 16 percent to 64 cents a share.

Beazer Homes USA Inc., the homebuilder that will replace Lennar in the S&P MidCap 400 Index, rallied $1.74 to $60.41.

Lexar Media Inc., which makes memory cards for digital cameras, jumped $1.17 to $7.55. The company is likely to gain licensing revenue or another settlement in 2007 from a lawsuit against Toshiba Corp., said JPMorgan analyst Paul Coster in a note. He raised Lexar to ``overweight'' from ``underweight.''

Acquisitions

Telewest Global Inc. and BindView Development Corp. shares increased on purchase agreements.

Cable operator Telewest Global Inc. added 17 cents to $23.12. NTL Inc., Britain's biggest cable operator, said it will buy Telewest for $6 billion. The cash-and-stock offer values Telewest at $23.93 a share, 4 percent more than the Sept. 30 closing price.

BindView, the developer of software to manage network password policies and security, agreed to be bought by Symantec Corp. for $209 million, or $4 a share, BindView added 37 cents to $3.87. Symantec gained 15 cents to $22.81.

To contact the reporter on this story: Dune Lawrence in New York at dlawrence6@bloomberg.net.

Last Updated: October 3, 2005 11:47 EDT