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Oil Prices Snag Stocks' Two-Month Rally

Oil's relentless ascent finally pushed stocks over the edge, abruptly snapping the market's two-month rally.

The Dow Jones Industrial Average dropped 145.99, or 1.2 percent, to close at 12479.63. The S&P 500 index skidded 1.3 percent and the Nasdaq fell 0.8 percent.

The Dow and S&P posted their worst one-week percentage declines since early February; the Nasdaq logged its worst percentage drop since mid-April.

All U.S. financial markets are closed Monday for the Memorial Day holiday.

Among the biggest drags on the Dow this week were General Motors, down 15 percent, JPMorgan , down more than 9 percent and Microsoft , down nearly 7 percent.

GM finished at a 26-year lowas soaring oil prices squelch demand for autos and raw-materials costs squeeze margins. And, the company said the just-ended strike at American Axle and strikes at its own plants have cut earnings by $2.8 billion.

Ford shares also dropped 15 percent on the week. Driving home these hard times for auto makers, Ford on Thursday lowered its profit outlook, saying it no longer expects to return to profitability in 2009.

Crude oil swung between $130 and $134 a barrel during the session, before settling at $132.19 a barrel.

Oil's surge -- it's up 17 percent so far this month -- has been wreaking havoc across the economy-- forcing consumers to cut back on spending and driving, pushing airlines to their most desperate measures in years and pushing auto makers into the red.

"I think you're seeing behavior-changing levels at the pump," said Eric Kuby, chief investment officer at North Star Investment Management. "At $4-plus levels, people want to drive less and, if they're going to buy a car, it won't be an SUV," Kuby said. "We're at that inflection point where behavior will start to change."

Kuby said that probably, the last 30 percent of crude's rise has been speculators inflating the bubble. So, when it starts to fall, Kuby says, it's going to fall fast.

The question is, when?

"Oil seems resilient," Art Cashin, director of floor operations at UBS, told CNBC. "And I think it’s going to hit the consumer like a two-by-four over the head, and this economy is going to begin to sink again," Cashin said.

"I don’t know if it’s going to be a month or four months, but I think the recession is going to bring stock prices down," Cashin said.

In Friday's market action:

Airline stocks were again grounded, with the S&P airline index down 2 percent. Continental dropped 8.1 percent and United parent UAL skidded 7.7 percent.

Kimberly-Clark slipped 1.4 percent after the maker of Kleenex tissue, Huggies diapers and other consumer products said it's raising prices 6 to 8 percentto offset soaring energy and raw-materials costs.

Restaurant Cheesecake Factory fell 6.4 percent, while Darden Restaurants , which operates the Red Lobster chain, dropped 4.4 percent.

Existing-home sales fell 1 percent to a 4.89 million annual pacein April, the National Association of Realtors reported. Still, inventories ballooned by nearly 11 percent and the number of single-family homes on the market was the highest in 23 years. Median home prices have fallen 8 percent since April 2007.

Housing stocks tumbled nearly 3 percent, with some off more than that, including Ryland and KB Homes .

All S&P sector indexes were lower on the week but financials were the biggest loser, dropping 6 percent, as banks have started to announce plans to raise more capital and several prominent financial figures have come out and said the financial crisis has a ways to go.

"The market had gotten a little bit of a lift that first-quarter earnings outside financials weren't so bad," Kuby said, reflecting on major averages surpassing their 200-moving day averages on Monday.

"Everyone thought it was the eighth inning of the financial crisis, but then people like George Soros and Warren Buffett come out and say it's the fourth inning," Kuby said. "That's really poured cold water on people's enthusiasm."

After GM, the Dow's biggest drags were Citigroup , Bank of America and AIG.

AIG took a hit after Moody's downgraded the insurance company's debt rating, citing mortgage-related losses.

JP Morgan Chase skidded 1.7 percent as the investment bank launched a major round of layoffs in its investment banking unit, some of the stiffest on Wall Street, in an effort to cut costs due to a slowdown in that business, CNBC has learned.

There was some merger buzz floating around the market today.

Shares of Anheuser Busch jumped 7.7 percent amid speculation that Belgian brewer InBev, the world's second-biggest by volume, is working on a $46 billion bid for its American rival. The news, first reported on the Financial Times's Alphaville blog, suggested the price tag could be $65 a share for the Bud brewer.

Meanwhile, Halliburton , the world's second biggest oil services company, has made a $3.4 billion offer for Britain's Expro International.

And Microsoft CEO Steve Ballmer brushed off the importance of its recent proposal to buy Yahoo .

"Yahoo was never the strategy we were pursuing," he told a packed hall at a technology conference in Moscow. "We will spend money on some acquisitions. You can do a whole lot of things with 50 billion dollars," he added.

Gap shares dropped 1.9 percent. The retail chain reported after the bell Thursday that its net jumped 40 percentbut that was due to tighter inventories and fewer markdowns; sales actually dropped 4.8 percent as the company, which operates Gap, Banana Republic and Old Navy chains, grapples with a turnaround effort and slower consumer spending.

Next Week:

MONDAY: All U.S. financial markets closed for Memorial Day
TUESDAY: Consumer confidence; new-home sales; S&P/Case-Shiller home price report; Fed's Yellen speaks; Idaho primary
WEDNESDAY: Weekly mortgage applications; durable goods; Fed's Stern and Fisher speak
THURSDAY: Weekly jobless claims; weekly crude inventories; GDP; Fed's Kohn speaks
FRIDAY: personal income and spending; Chicago PMI; consumer sentiment; Fed's Rosengren speaks

Send comments to cindy.perman@nbcuni.com