* Microsoft profit up on strong commercial sales; shares up in extended trade
* U.S.-listed Chinese stocks fall after audit ruling
* Netflix shares jump after earnings
* Indexes off: Dow 1.1 pct; S&P 0.9 pct; Nasdaq 0.6 pct
By Angela Moon
NEW YORK, Jan 23 (Reuters) - U.S. stocks fell on Thursday, with the Dow Jones industrial average recording its third consecutive day of losses, as risky assets sold off in wake of disappointing manufacturing data in China.
Financials and materials stocks were the day's biggest losers while telecom services was the only positive sector as investors sold growth-oriented stocks and bought defensive ones. Trading volume was heavier than in recent sessions.
The market sentiment was dented by a report on manufacturing in China which showed a mild slowdown at the end of 2013 in the world's second-largest economy had continued into the new year.
U.S.-traded Chinese stocks were down sharply after a U.S. Securities and Exchange Commission judge ruled that the Chinese units of the world's top accounting firms should be suspended from auditing those companies.
Among the biggest losers were Internet services provider Baidu Inc, down 6.2 percent, and SINA Corp, down 5.9 percent, on heavier-than-usual volume. The U.S. shares of Petrochina , the country's largest stock by market value, fell 3.1 percent.
The CBOE Volatility index VIX often used as a fear gauge on Wall Street, closed up 7.2 percent at 13.77 after rising more than 11 percent earlier.
"The day's panic was largely associated with China and I think it's a temporary reaction," said Randy Frederick, managing director of active trading and derivatives at Charles Schwab in Austin, Texas.
"If we have good corporate earnings from a couple of big names or good economic reports, I think we will be right back up to where we were a couple days ago."
The Dow Jones industrial average fell 175.99 points or 1.07 percent, to 16,197.35, the S&P 500 lost 16.4 points or 0.89 percent, to 1,828.46 and the Nasdaq Composite dropped 24.126 points or 0.57 percent, to 4,218.875.
Trading volume was higher than usual with 7.4 billion shares traded on all U.S. platforms compared to a five-day average of 6.7 billion shares, according to BATS exchange data. Both on the NYSE and Nasdaq, decliners beat advancers by a ratio of about 2 to 1.
After the bell, Microsoft Corp said fiscal second-quarter profit rose 3 percent, as strong sales of its Office software to businesses offset another weak quarter for its flagship Windows system, and as consumers increasingly favor tablets over personal computers. The stock rose 3.7 percent in extended trade.
Starbucks Corp's sales at established stores in its U.S.-dominated Americas region cooled more than analysts expected in its latest quarter as consumers spent more time holiday shopping online than at physical stores. The stock rose 1 percent in extended trade.
Apple Inc rose 0.8 percent to $556.18. Activist investor Carl Icahn picked up another $500 million of Apple shares, taking the billionaire's total investment in the iPhone maker to $3.6 billion.
In other earnings, McDonald's Corp reported weaker-than-expected revenue as fewer customers ate at its restaurants. Shares rebounded from earlier losses to close up 0.5 percent to $95.32.
Netflix Inc shares surged 16.5 percent to $388.72 as the best performer on the S&P 500. The world's largest video-streaming company said Wednesday it added more than 2.3 million U.S. customers in the fourth quarter.
Shares of Herbalife fell 10.3 percent to $65.92 in heavy volume after Massachusetts Senator Edward Markey asked for more information about its business practices. The nutrition company has been accused by prominent hedge fund manager William Ackman of running a pyramid scheme.
Thomson Reuters data through Thursday morning shows earnings for the fourth quarter are expected to grow 7 percent. Of the 102 companies in the benchmark that have reported, 63 percent beat expectations, in line with the long-term average.