The rally in oil was a continuation of Thursday's momentum. It was further aided by U.S. dollar weakness, Libyan threats to cut output and speculation the Fed won't raise rates and stifle inflation. Nymex crude oil was up $1.03 to $140.67 after hitting a record $142.99.

"Questions over Fed credibility are pushing commodity prices higher," wrote Sacha Tihanyi, associate currency strategist at Scotia Capital.

The Dow Jones Industrial Average followed up a 3.8% drop last week with another 4.0% weekly tumble. On Friday, the Dow briefly tripped the bear market threshold as it fell to more than 20% from its October high. A modest end-of-day recovery left the Dow slightly above the traditional bear market threshold.

The S&P closed at its lowest level since August 2006 and was down 3.1% but remains in slightly better shape than the Dow as it remains above its March intraday lows.

In Canada, the S&P/TSX composite index declined 1.8% on the week for its third consecutive weekly decline after hitting record highs at the beginning of June.

Toronto's S&P/TSX composite index closed up 63 points to 14,355, the Dow Jones industrial average down 107 points to 11,347, the S&P 500 down 5 points to 1,278 and the Nasdaq down 6 points to 2,316.

European stock markets closed in mixed territory with the Eurostoxx down 13 points to 2,876, the UK FTSE 100 up 12 points to 5,530 and the German DAX down 38 points to 6,422.

Economic data was mixed. U.S. spending and inflation improved in the May personal consumption expenditures report. Government economist stimulus cheques were credited with the rise but they didn't help sentiment, which slid to a 26-year low in the June University of Michigan and Reuters survey.

Signs of declining inflation and continued pressure on corporate earnings caused Fed Fund futures traders to increase bets of no rate changes in the fall. The implied probability of no change at the August meeting is 73% and 37% in May -- up 10 percentage points on the day.

"Our view is that it's just going to be words, not action until the end of the year or even until the middle of 2009," said Martin Lefebvre, economist at Desjardins.

U.S. two-year yields were down 3.2 bps to 2.62%, with five-year yields down 3.7 bps to 3.35%, 10-year yields down 6.8 bps to 3.97% and 30-year yields down 8.4 bps to 4.52%. The Eurodollar September 08 contract was up 8.0 ticks to 97.10. The yield curve is flatter, with the 10/2-year spread down 4.2 bps to 137.37 bps.

Steven Ricchiuto, a fixed income strategist at Handelsbanken, noted that although U.S. equity markets are below their March lows, the yield on the U.S. 10-year note is 70 basis points higher.

"This market dynamic suggests that the renewed equity selloff is motivated more by deteriorating macro fundaments than the fear of another run on a financial institution like that which destabilized Bear Stearns," wrote Ricchiuto in a note to clients.

At the Montreal Exchange, short-term interest rate futures were relatively unchanged. The September BAX contract moved up 0.015 to 96.760, representing a slightly smaller chance of rate hikes. Volume was light at 69% of the 10-day average. The 10-year CGB contract was trendless with volumes slightly higher than the 10-day average and prices down 0.05 to 117.81.

Yields on two-year Canadian government bonds were up 2.0 bps to 3.18%, with five-year yields up 0.9 bps to 3.40%, 10-year yields down 0.6 bps to 3.70% and 30-year yields down 1.9 bps to 4.06%. The Canadian 10-year note is yielding 26.52 bps less than the U.S. 10-year note.

In Germany, returns on two-year German bonds are down 1.8 bps to 4.44%, with five-year yields down 1.6 bps to 4.49%, 10-year yields up 0.6 bps to 4.52% and 30-year yields up 6.7 bps to 4.81%.

Yields on UK two-year bonds are up 1.2 bps to 5.14%, with five-year yields up 2.4 bps to 5.09%, 10-year yields up 2.8 bps to 5.04% and 30-year yields up 5.1 bps to 4.62%.

The U.S. dollar also suffered as rate hike expectations were scaled back. The Dollar index fell 1.0% on the week and fell 0.127 to 72.360 on the session.

"Much of the U.S. dollar's fall came after markets re-priced prospects for Fed policy tightening after the FOMC statement downplayed chances for a near-term rate hike," wrote foreign exchange strategists from Morgan Stanley in a research note.

The Canadian dollar was up 0.0057 on the week but underperformed in the broad U.S. dollar rout. Shaun Osborne, chief currency strategist at TD Securities, said the loonie's inability to strengthen could signal a USD rebound.

"This market has absorbed a huge amount if U.S. dollar selling this week and refuses to roll over," Osborne said in a research note.

The Canadian dollar was up 0.0032 to 0.9892 against the U.S. dollar (1.0109 USD/CAD) and down 0.37 to 104.98 against the yen.

The euro was up 0.0034 to 1.5791 against the U.S. dollar, down 0.0016 to 1.5962 against the Canadian dollar, down 0.0007 to 0.7915 against the pound sterling and is lower by 0.72 to 167.57 against the yen.

The pound sterling was up 0.0059 to 1.9950 against the U.S. dollar and down 0.0002 to 2.0167 against the Canadian dollar.

The U.S. dollar was down 0.68 to 106.13 against the yen.

The front month gold contract at the Chicago Board of Trade was up $14.50 to $929.80 per ounce.

The week ahead will be a busy one for economic data and central banks. The European Central Bank will announce rates on Thursday. Canadian market watchers will be focused on the April GDP report, to be released on Monday.

In the U.S. there will be both ISMs and the ADP employment data ahead of Thursday's non-farm payrolls.

"Reports on the economy next week are expected to add further evidence to the view that the domestic economy continues to struggle against major headwinds, despite the positive impact that the fiscal stimulus payments has been having on consumer spending so far in the second quarter," wrote economists from Global Insight in a research note.

All data taken at 4:51 p.m. EDT.

By Adam Button, This email address is being protected from spam bots, you need Javascript enabled to view it , edited by Cristina Markham, This email address is being protected from spam bots, you need Javascript enabled to view it

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