We observe squeezing in the phase-dependent fluorescence spectra of two-level atoms that are coherently driven by a near-resonant laser field in free space. In contrast to previous predictions that emphasized the in- and out-of-phase quadratures, we find that maximum squeezing occurs for homodyne detection at a phase near ±45° relative to the exciting field. A new physical picture of phase-dependent noise is developed that incorporates quantum collapses into a Bloch vector model and yields a very simple form for the complete squeezing spectrum. © 1998 The American Physical Society.