US STOCKS-Indexes rise as Fed rate cut expectations outweigh Microsoft decline

(Updates to afternoon US trading)

*

Investors assess ADP employment and ISM services reports

*

Microsoft (MSFT) pares declines after disputing report about AI sales quotas

*

Small caps outperform broader Wall Street

*

Indexes up: Dow 0.96%, S&P 500 0.4%, Nasdaq 0.25%

By Chuck Mikolajczak

NEW YORK, Dec 3 (Reuters) - U.S. stocks moved higher on Wednesday, as a flurry of economic data kept expectations elevated for an interest rate cut by the Federal Reserve next week, while a fall in Microsoft's (MSFT) shares held gains in check. The record-long 43-day U.S. government shutdown kept investors in the dark about official data and hampered the ability to gauge the likely path of interest rates from the Federal Reserve. But the backlog is now being cleared along with data from non-governmental sources. The Institute for Supply Management said U.S. services activity was little changed in November at 52.6 versus 52.4 in October while the prices paid component dipped but remained elevated. The reading comes ahead of the delayed personal consumption expenditures report, the Fed's preferred inflation gauge, on Friday.

Separately, the ADP National Employment Report showed U.S. private payrolls unexpectedly declined in November. With official employment reports for October and November due only after the central bank's policy announcement, market participants have placed more weight than usual on private-sector data.

"For market participants, at least, the Federal Reserve will have ammo to lay off the hawkish tone that we saw a couple of weeks ago and perhaps lean more dovish into what looks to be disappointing and weakening labor data as we get this kind of real-time restart of the data cadence that we're used to," said Keith Buchanan, senior portfolio manager at Globalt Investments in Atlanta.

"That's something that the markets are obviously receiving really well today, and we'll see as the onslaught of data continues if it will continue with this tone, and the markets will continue to receive it in the same way."

The Dow Jones Industrial Average rose 456.50 points, or 0.96%, to 47,931.37, the S&P 500 gained 27.33 points, or 0.40%, to 6,856.70 and the Nasdaq Composite gained 60.32 points, or 0.25%, to 23,474.00. Microsoft (MSFT) fell as much as 3% after a report said the tech giant has cut AI software sales quotas after many sales staff missed their targets in the fiscal year that ended in June. The shares cut initial losses and were last down 1.8% after CNBC said Microsoft (MSFT) denied the report. This helped pull the S&P 500 and Nasdaq into positive territory. Still, the tech sector was down 0.2%, one of two S&P 500 sectors in the red. Energy was the best performing sector, lifted in part by a rise in oil prices. Traders' expectations for a 25-basis-point cut at next week's Fed meeting inched up to 89% after the data, up from around 87% earlier in the day, according to CME's FedWatch Tool. Investors weighed a report that President Donald Trump's administration has abruptly canceled interviews with finalists for the Fed chair role. This fed expectations that Kevin Hassett - seen as likely to favor aggressive interest rate cuts - will replace Jerome Powell next May.

Rate cut expectations have also lifted small caps recently, with the Russell 2000 index gaining 1.6% on the session, following last week's 5.5% surge - its strongest weekly performance in more than a year.

"We expect small caps to outperform in 2026, with earnings to drive returns," said Jill Carey Hall, equity and quant strategist at BofA Securities, adding that Fed rate cuts and a strong capex cycle would be strong drivers. On Wednesday, Marvell Technology (MRVL) jumped 7.3% after the chipmaker said it will buy semiconductor startup Celestial AI in a deal worth $3.25 billion. Microchip Technology rallied 9.9% after the chipmaker raised its expectations for third-quarter results. American Eagle Outfitters (AEO) surged 15.5% after raising its annual comparable sales forecast, betting on strong demand during the holiday season.

Advancing issues outnumbered decliners by a 2.6-to-1 ratio on the NYSE, and by a 2.53-to-1 ratio on the Nasdaq.

The S&P 500 posted 24 new 52-week highs and two new lows, while the Nasdaq Composite recorded 89 new highs and 91 new lows.

(Reporting by Chuck Mikolajczak; additional reporting by Johann M Cherian and Pranav Kashyap in Bengaluru; Editing by Tasim Zahid, Shinjini Ganguli and David Gregorio)