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Week Ahead: Europe May Rattle the Market’s Cage

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Europe will keep its chokehold on financial markets in the week ahead, as investors size up Greece’s commitment to the euro zone and watch for other headlines on the debt crisis.

“Next week is only one of the four weeks we have to wait until the Greek election. Every utterance out of Greece makes us think about their [possible] exit and how sloppy that could be,” said Art Hogan of Lazard Capital Partners.

G8 leaders meetingin Camp David over the weekend strongly supported keeping Greece in the euro zone, and vowed to do whatever is necessary to battle financial turmoil while revitalizing their economies.

They also stressed the need for strategies to encourage growth, in a seeming effort to balance the European austerity measures pushed by Germany, and at the heart of the political crisis in Greece.

With just a few earnings and economic reports, there will be plenty of opportunity for markets to dwell on Europe and its problems. In the past week, investors began to reassess the possibility that Greece could leave the euro zone in a messy fashion, spurring bank runs in other weak peripheral countries.

While still not viewed as highly likely, those fears helped send buyers into the bond market, driving 10-year yields to historic lows. Stocks sold off, in their worst weekly performance of the year. The Dow Jones Industrial Average in the past week was down 3.5 percent to 12,369, and the S&P 500was off 4.3 percent to 1295. The Nasdaq was down 5.3 percent to 2778.

“The macro environment here is really getting very dicey and it happened quickly,” said Barry Knapp, head of equities portfolio strategy. Knapp said it’s not clear European nations are prepared to provide the policy response needed.

Knapp said if the markets viewed G8’s weekend comments as constructive, the market could get a short term bounce. “What are you supposed to do with any bounce? Sell it,” he said.

In the past week, German Chancellor Angela Merkeland newly elected French President Francois Hollande both said Greece should stay in the euro zone. Greece’s failure to form a ruling coalition after its May 6 election has now led it to a second election in June. Polls show the radical left party is in the lead, and that party rejects austerity measures agreed to as part of the Greek bailout.

Alan Ruskin, Deutsche Bank G10 currency strategist, said some of the G8’s discussion is unlikely to be made public. “Even if there’s a very small possibility [of a Greek exit], policymakers should be drawing up contingency plans,” he said.

The euro lost about 1 percent against the dollar in the past week. The U.S. Commodity Futures Trading Commission (CFTC) reports a record net speculative short position in the euro in the week ended Tuesday, notes Peter Boockvar, market strategist at Miller Taback.

The markets are also watching the European banking sector, under review by Moody’s. Moody’s downgraded Italian and Spanish banks in the past week.

JPMorgan Chase Under Fire

JPMorgan Chase will also be a focus as the Senate banking committee holds a hearing into its derivatives trading loss Tuesday. Weekend newspapers continue to highlight problems in JPMorgan’s chief investment office, with TheNew York Times pointing to internal feuding as part of the problem.

The Times also reported that the CFTC has launched a third federal investigation into the bank, and is investigating whether JPMorgan affected the credit derivatives market.

CFTC Chairman Gary Gensler is expected to disclose the agency’s investigation when he testifies at the Tuesday hearing, the paper reported.

The Wall Street Journal reported that JPMorgan is struggling to get out of trades put on by traders, including the so-called “London whale,” and that sources say its losses could reach over $5 billion. Rumors circulated in the past week that JPMorgan’s hedge unwinds were even showing up in unusual activity in the Treasury market.

On Monday, JPMorgan CEO Jamie Dimon was scheduled to face investors at a Deutsche Bank conference at 9:30 a.m. ET. JPMorgan shares lost 9 percent in the past week.

Econorama

Existing home sales Tuesday and Thursday’s durable goods and weekly jobless claims top the week’s U.S. economic reports. German and euro zone PMI is reported Thursday, as is HSBC flash manufacturing PMI for China.

“I think that the economy has been slowing. It’s not as robust as it was; however, I would argue with disproportionate falling interest rates. Housing activity is picking up, gasoline prices are falling as we go into Memorial Day weekend. That can’t be bad. I think we have to be careful about getting too bearish,” said Richard Bernstein, CEO of Richard Bernstein Capital Management.

Bernstein said Europe’s problems are behind the decline in Treasury yields. The 10-year note on Thursday closed at a record low of 1.70.

“We are benefiting from the rest of the world’s problems, and the dollar is strong … the world is moving to U.S. assets as they begin to reassess the risks around the world, and I think this is great for the U.S. economy longer term,” he said.

Knapp said Tuesday’s Richmond Fed survey will be important because of the mixed results of the past week’s stronger Empire State survey, and the surprising decline in the Philadelphia Fed survey. Housing is also important.

“The one story left alive in the equity market is that the housing market is recovering faster than people thought. I think the housing market is bottoming … But I don’t think it’s about to have a robust recovery,” he said.

One of the big events for the stock market this year was Facebook’s initial public offeringFriday.

Some traders said stocks had an early bid Friday because of Facebook, but that faded. Facebook shareswere barely changed on the day, ending 23 cents above the $38 offer price. However, trading in the stock was marred by communications problems at the Nasdaq and the stock had a rough start, reaching a high of $45 very briefly.

Trades were still being resolved late in the day and there is likely to be more discussion about that in the coming week.

Facebook, at $18 billion, is the largest tech IPO and it attracted a great deal of retail investor interest. In fact, retail investor participation in the market Friday was 50 to 70 percent higher than the average for May, according to Sandler O’Neill’s Richard Repetto.

“It’s rather ironic there’s been massive outflows from equity mutual funds, yet individual investors think they’ve found the investment. I think this thing is tremendously overhyped. It’s not half as important as everybody makes it out to be,” Bernstein said.

What to Watch (All times Eastern)

Monday

Earnings: Campbell Soup, Lowe’s, Urban Outfitters, Ryanair

0515 am Atlanta Fed President Dennis Lockhart speaks in Tokyo on monetary policy

Tuesday

Earnings: AutoZone, Best Buy, Medtronic, Ralph Lauren, Vodafone, Williams-Sonoma, Cracker Barrel, DSW, Analog Devices, Dell, Petsmart, Guess, Take Two

0615 am Atlanta Fed’s Lockhart in Hong Kong on monetary policy

1000 am Existing home sales

1000 am Richmond Fed survey

0100 pm Treasury auctions $32 billion in 2-year notes

Wednesday

Earnings: Hewlett-Packard, American Eagle, Bank of Montreal, Big Lots, Hormel, Toll Brothers, NetApp, Pandora, PVH, Synopsys

1000 am New home sales

1000 am FHFA home price index

0100 pm Treasury auctions $32 billion in 5-year notes

0200 pm Minneapolis Fed President Narayana Kocherlakota in Rapid City, S.D.

Thursday

Earnings: Costco, Royal Bank of Canada, Tiffany, Toronto Dominion, Verifone

0830 am Initial jobless claims

0830 am Durable goods

1230 pm New York Fed President William Dudley at Council on Foreign Relations

0100 pm Treasury auctions $29 billion in 7-year notes

Friday

0530 am Philadelphia Fed President Charles Plosser speaks in Germany

0955 am Consumer sentiment

Follow Patti Domm on Twitter: @pattidommQuestions? Comments? Email us at marketinsider@cnbc.com

  • Patti Domm

    Patti Domm is CNBC Executive Editor, News, responsible for news coverage of the markets and economy.

  • A CNBC reporter since 1990, Bob Pisani covers Wall Street from the floor of the New York Stock Exchange.

  • CNBC Senior Commodities Correspondent and Personal Finance Correspondent

  • JeeYeon Park is a writer for CNBC.com. Follow her on Twitter: @JeeYeonParkCNBC

  • Rick Santelli joined CNBC Business News as an on-air editor in 1999, reporting live from the floor of the Chicago Board of Trade.

  • Senior Producer at CNBC's Breaking News Desk.