Rising volatility in stocks and commodities could continue to be a dominant theme in the week ahead, as investors watch the latest U.S. economic reports for signs the recovery is moving forward.
Markets will also remain focused on the European debt crisis, as European heads of state meet early in the week. Greece, Portugal and Ireland are expected to dominate the discussion.
European finance ministers meet Tuesday, and the IMF, European Central Bank team spend the week in Athens. Greece is expected to present a new fiscal strategy that will include new austerity measures and privatizations, and the IMF staff may make a statement by the end of the week.
The week's U.S. data includes a fresh look at April housing activity. Investors here will also keep a close eye on the continuing damage from rising flood waters along the Mississippi, which threatens to disrupt oil refineries.
Hewlett-Packard , Dell and a few big retailers issue earnings, including Wal-Mart on Tuesday.
This past week was another volatile one for commodities and stocks, with major swings in both directions as risk assets followed the moves in currency markets.
Despite wide fluctuations, theS&P 500 ended only 0.2 percent lower at around 1,337, while oil ended 2.5 percent higher. The focus on Friday centered on the dollar, which reached a 6-week peak against the euro. Gold ended ended just 0.15 percent higher at 1,493.40.
"Our view is basically post QE2 (quantitative easing), the market went very short dollars, and very very long oil and commodities and at some point there would be a reversal," said Binky Chadha, chief U.S. equities strategist at Deutsche Bank. "That's exactly what happened. Are we there yet? I would say no. Oil and commodities we would think fair value would be a lot lower."
QE2 is the Wall Street name for the Fed's program to purchase $600 billion in Treasury securities. The Fed will stop the program at the end of June, and it is seen as a first step to more normalized monetary policy. Still, the Fed is widely expected to keep interest rates at zero into 2012.
The correction in commodities prices comes as rising gasoline prices are beginning to hurt the economy.
"The run up in oil prices was an issue for the length of the cycle and durability of the cycle. It's a very welcome correction. It wasn't the absolute level we were concerned about. It was the expectations that it would keep going up," Chadha said.
Barclays Capital head equities portfolio strategist Barry Knapp said the market may go sideways for a period this summer.
"One dynamic could force that to be the case for the next month or so. We were hoping that the April data would make it pretty clear the slowdown in the first quarter was transitory. It hasn't quite done that," Knapp said.
The concerns about the labor market are a lingering issue for stocks, he added. Surprisingly on Friday, consumer sentiment came in at its best level in three months and consumers showed some improved optimism about the job market.
"I think jobless claims need to get back below 400,000. I really think this will circle back to the U.S. data being most important," Knapp said. Claims have been elevated above 400,000 for a month, even as April's employment report showed creation of 244,000 jobs.
Another issue for markets could be the ongoing budget talks in Washington and discussions about raising the U.S. debt ceiling, which Congress must resolve by August.
"We know as far as D.C. goes there will be a lot of noise but as the focus shifts back to the U.S. (economy). I do think the primary trend is higher, but to go significantly higher we need convincing data on the labor market. To go significantly lower, we would need deterioration," he said.
Chadha agrees the economy has hit a soft patch, but he sees it as temporary and expects stocks to respond to positive surprises in economic data.
"If I look at my data surprise index, they are still negative, but they're getting less bad. We should have over the next six weeks or so a turn up into positive territory ... more importantly the market should turn with it and the cyclicals should also turn with it," he said.
Stocks have basically not made much headway since February and specific risk events have held it back, such as the issues in the Middle East, the European debt saga and the aftermath of the Japanese earthquake and tsunami, he said.
"There's a lot of nervousness and a lot of concern. I also think that has a lot do with the sector performance we've seen for the last month or so," Chadha said. "The defensives have outperformed. It's a situation where everybody is uncomfortable. The people who are bullish on the market underperformed because the cyclicals underperformed." The best performers of the past month have been utilities and health care.
One bright spot has been earnings. "As we learned from earnings season, earnings have been growing strongly. Earnings beat by almost 7 percent. Margins have rebounded," he said.
"We are having a soft patch, but as compared to the soft patch we had last summer, this is probably about a third of the severity of that," said Chadha
What to Watch
Housing news includes existing home sales Thursday, housing starts Tuesday and the National Association of Home Builders survey Monday. Other economic reports this week include the Empire State Survey Monday and the Philadelphia Fed survey Thursday. Industrial production is released Tuesday, and leading indicators are Thursday.
The Treasury issues data on international capital flows Monday, and the Fed releases the minutes of its last meeting Wednesday, with its economic projections.
Fed chairman Ben Bernanke gives the keynote at a Washington conference on New Building Blocks for Jobs and Economic Growth: Intangible Assets as Sources of Increased Productivity and Enterprise Value at Georgetown University Monday morning.
The Senate votes on ending tax breaks for the oil industry Wednesday, and NOAA will issue the outlook for the hurricane season Thursday. Oil inventory data Wednesdays morning at 10:30 a.m. will be closely watched after the past week's rise in gasoline supplies.
There are a few earnings reports in the week ahead, including J.C. Penney Monday; Wal-Mart, Dell,Home Depot and TJX on Tuesday; Hewlett Packard, Target and Deere on Wednesday, and Brocade , Gap and Sears on Thursday.
Questions? Comments? Email us at marketinsider@cnbc.com
