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After another week of volatility driven by news on the crisis, the S&P 500 managed to end 0.8 percent higher for the week. However, investors remain skittish and are taking out insurance in the options market against future losses.

Banks were among the leaders on a day when growth-oriented stocks turned in the strongest performance. Sentiment received a big boost from falling Italian bond yields, which earlier this week hit the highest level since the euro was introduced in 1999.

Stock market volatility has been closely tied to European credit markets in recent days.

"I'm both positively surprised and reassured that the European situation is not pushing us into a tailspin the way it could have," said Natalie Trunow, chief investment officer of equities at Calvert Investment Management in Bethesda, Maryland, which manages about $13 billion.

A package of austerity measures demanded by the European Union was passed by the Senate and now goes to Italy's lower house, which is expected to approve it on Saturday.

Passage would trigger the resignation of Prime Minister Silvio Berlusconi. Former European Commissioner Mario Monti is widely expected to take over as head of a broadly based national unity government.

In debt-strapped Greece, the prime minister-designate, Lucas Papademos, a former vice president of the European Central Bank, will name a new crisis cabinet to roll out austerity plans.

Among the best-performing sectors for the day were an index of semiconductors .SOX, up 3.5 percent; the Dow Jones Transportation average .DJT, up 2.8 percent, and the S&P energy index .GSPE, up 1.8 percent.

For the day, the Dow Jones industrial average .DJI was up 259.89 points, or 2.19 percent, to end at 12,153.68. The Standard & Poor's 500 Index .SPX was up 24.16 points, or 1.95 percent, to finish at 1,263.85. The Nasdaq Composite Index .IXIC was up 53.60 points, or 2.04 percent, to close at 2,678.75.

For the week, the Dow rose 1.4 percent and the S&P 500 gained 0.8 percent, while the Nasdaq slipped 0.3 percent.

Financial shares, seen as vulnerable because of their exposure to European debt, ranked among the best performers. Bank of America Corp (BAC.N) rose 3 percent to $6.21, and JPMorgan Chase & Co (JPM.N) gained 1.7 percent to $33.28. The KBW Bank index .BKX climbed 2.1 percent.

Despite the week's higher close, options activity suggests some investors fear the gains won't last.

WhatsTrading.com options strategist Frederic Ruffy pointed to a massive January $43-$49 put spread bought on the iShares MSCE EAFE Index (EFA.P), an exchange-traded fund that holds shares of companies from European, Australian and Far Eastern markets.

Among other advancers for the day, shares of Walt Disney Co (DIS.N) jumped 6 percent to $36.70 after the media and entertainment group reported a 7 percent gain in revenues and a 30 percent jump in profit, beating expectations.

Advancers sharply outnumbered decliners on the New York Stock Exchange by a ratio of 6 to 1, while on the Nasdaq, nearly four stocks rose for every one that fell. (Reporting by Caroline Valetkevitch; Additional reporting by Angela Moon; Editing by Jan Paschal)

Italy's Senate approved a new budget law, clearing the way for approval of the package in the lower house on Saturday and the formation of an emergency government to replace that of Prime Minister Silvio Berlusconi.

In Athens, former European Central Bank policymaker Lucas Papademos was sworn in as Greek prime minister after days of political wrangling, tasked with meeting the terms of a bailout plan to avert bankruptcy.

Obama spoke with German Chancellor Angela Merkel and French President Nicolas Sarkozy late on Thursday and called Italian President Giorgio Napolitano, while Treasury Secretary Timothy Geithner demanded fast action from Europe.

"The crisis in Europe remains the central challenge to global growth. It is crucial that Europe move quickly to put in place a strong plan to restore financial stability," Geithner said in a statement.

After months of dither and delay, Rome appears to have got the message as bond markets pushed it to the brink of needing a bailout that the euro zone cannot afford to give.

If the votes pass smoothly, Napolitano will accept Berlusconi's resignation over the weekend and ask veteran former European commissioner Mario Monti, a technocrat like Papademos, to form a government.

Berlusconi has promised to resign after the financial stability law is passed by both houses of parliament.

He had insisted on early elections but then softened his stance. Markets were calmed by the prospect that there would be an interim government, rather than a three-month vacuum before elections are held.

"The most important element to overcome this crisis is a very trusted and able new Italian government that can really fulfil the structural changes that are needed," ECB policymaker Ewald Nowotny told Reuters in Beijing.

EURO UP

The euro firmed and Italian bond yields, which had raced above sustainable levels this week, fell in relief at the prospect of a new government.

European shares also rose in relief, with Italian banks like Intesa Sanpaolo rallying.

But investors doubted the recovery would last, as even a technocrat government might struggle to make progress on fiscal reforms Italy has long promised but never delivered.

"We can have maybe two or three days of calm -- in inverted commas -- but nothing has really changed underneath," one bond trader said.

Spain, the euro zone's fourth largest economy which holds elections in nine days, stopped growing in the third quarter, putting its deficit-reduction goals in doubt.

With European leaders dithering over how to tackle the deepening crisis, pressure has mounted on the European Central Bank to act more forcefully by becoming a full lender of last resort like the U.S. Federal Reserve and the Bank of England.

"There is real turbulence in the markets, real question marks over whether countries can deal with their debts and a big question mark over the future of the euro zone," British Prime Minister David Cameron said.

Three senior ECB policymakers on Thursday rebuffed arm-twisting from investors and world leaders to intervene massively on bond markets to shield Italy and Spain from financial contagion.

German Economy Minister Philipp Roesler said on Friday the ECB did not have "unlimited firepower." Berlin strongly opposes the ECB taking on a broader crisis-fighting role, arguing that this would compromise the central bank's independence.

RESCUE FUND

The euro zone's plan for a more powerful rescue fund may also be running into trouble.

Klaus Regling, the head of the 440 billion euro European Financial Stability Facility, was quoted saying market turmoil had made it more difficult to scale it up to 1 trillion euros, as proposed by euro zone leaders.

Luring bond investors by offering insurance on losses, the centrepiece of a plan agreed in Brussels on October 26, would now probably use up more of the fund's resources, Regling said.

"The political turmoil that we saw in the last 10 days probably reduces the potential for leverage. It was always ambitious to have that number, but I'm not ruling it out," the Financial Times quoted him as saying.

In Athens, Papademos, a former ECB vice president, faces major challenges at the helm of a unity government forged after a chaotic power struggle between the two main political forces.

"With the unity of all people, we will succeed," Greece's new technocrat premier told George Papandreou, who led the previous Socialist administration that fell apart last week.

Papademos has about 100 days to start fulfilling the terms of a 130 billion euro bailout plan to keep Greece solvent while placating warring political factions.

Socialist party big-hitter Evangelos Venizelos will remain finance minister in a new cabinet that includes many of the same politicians who led the nation into crisis.

Automotive giant Daimler, a leading German exporter, spoke out against keeping Greece in the euro zone at all costs and said the euro could survive without it.

"I wouldn't consider one link splitting off from the rest as a 'break-up' of the euro zone," Chief Executive Dieter Zetsche told Reuters in an interview.

(Additional reporting by James Mackenzie in Rome, Renee Maltezou in Athens, Nick Edwards in Beijing, Ana Nicolai da Costa and Francesco Canepa in London; Writing by Mike Peacock and Stephen Brown; Editing by Angus MacSwan)

Italian bond yields eased ahead of a vote by that country's Senate later in the day on a package of cuts that is expected to pass easily, as it should in the lower house on Saturday.

European shares bounced back, rising 0.8 percent on the developments.

Asian shares also rebounded. Japan's Nikkei share average rose 0.2 percent and MSCI's broadest index of Asia Pacific shares outside Japan gained 1.3 percent, recouping some losses suffered in a sharp selloff in the previous session.

In Greece, the prime minister designate, Lucas Papademos, will name a new crisis cabinet to roll out austerity plans.

"Here again today, there are some positive steps in terms of the reorganization of the Greek and Italian governments and there seems to be a slight tightening to the yields that had everyone worried, and that is the dominant news of the morning," said Rick Meckler, president of investment firm LibertyView Capital Management in New York.

"It's a very repetitive process in the sense (that) where you are sitting behind a wall with cracks in it, and some days the cracks seem a little bit wider and have to be patched up -- and to the extent they are patched up the market seems to recover."

S&P 500 futures rose 10.2 points and were above fair value, a formula that evaluates pricing by taking into account interest rates, dividends and time to expiration of the contract. Dow Jones industrial average futures climbed 78 points, while Nasdaq 100 futures gained 13.5 points.

Walt Disney Co advanced 4 percent to $36.02 after the media and entertainment group reported a 7 percent gain in revenues and a 30 percent jump in profit, trumping expectations.

Nvidia Corp's shares climbed 4.2 percent to $15.08 in premarket trade after the chipmaker posted quarterly results that beat estimates as it refocused on smartphones and tablets in a tepid personal computer market.

Caterpillar Inc will offer to buy China's ERA Mining Machinery in a deal that could be worth up to $885 million.

On the economic front, Thomson Reuters/University of Michigan Surveys of Consumers preliminary November consumer sentiment index is due to be released at 9:55 a.m. EST (1455 GMT). A Thomson Reuters poll found a forecast for a reading of 61.5 compared with 60.9 in the final October release.

(Reporting by Chuck Mikolajczak; editing by Jeffrey Benkoe)

Italy's Senate approved a new budget law on Friday, clearing the way for approval of the package in the lower house on Saturday and the formation of an emergency government to replace that of Prime Minister Silvio Berlusconi.

Obama spoke with German Chancellor Angela Merkel and French President Nicolas Sarkozy late on Thursday and also called Italian President Giorgio Napolitano, who in turn was due to speak to Sarkozy in a round of telephone diplomacy.

A German government official said there had been an "exchange of opinions" between Merkel and Obama, while Treasury Secretary Timothy Geithner demanded fast action from Europe.

"The crisis in Europe remains the central challenge to global growth. It is crucial that Europe move quickly to put in place a strong plan to restore financial stability," Geithner said in a statement following a meeting with finance ministers from the Asia Pacific Economic Cooperation countries.

After months of dither and delay, Rome appears to have got the message as bond markets pushed it to the brink of needing a bailout that the euro zone cannot afford to give.

If the votes pass smoothly, Napolitano will accept Berlusconi's resignation over the weekend and ask veteran former European commissioner Mario Monti to form a government.

Fellow technocrat and ex-European Central Bank policymaker Lucas Papademos will head a new unity government in Greece.

Berlusconi, who lost his majority in a vote on Tuesday, has promised to resign after the financial stability law is passed by both houses of parliament.

He had insisted on early elections but then softened his stance. Markets were calmed by the prospect that there would be an interim government, rather than a three-month vacuum before elections are held.

"The most important element to overcome this crisis is a very trusted and able new Italian government that can really fulfill the structural changes that are needed," ECB policymaker Ewald Nowotny told Reuters in Beijing.

The euro firmed but investors doubted whether it would climb far, given that even a technocrat Italian government might struggle to make progress on long-promised, never-delivered fiscal reforms.

Italian 10-year borrowing costs fell sharply to 6.7 percent, having hit an unsustainable 7.5 percent earlier in the week.

"We can have maybe two or three days of calm -- in inverted commas -- but nothing has really changed underneath," one bond trader said.

Spain, the euro zone's fourth largest economy, which holds elections in nine days' time, stopped growing in the third quarter, raising doubts about its ability to meet deficit reduction targets.

RELUCTANT ECB

With European leaders dithering over how to tackle the deepening crisis, pressure has mounted on the European Central Bank to act more forcefully by becoming a full lender of last resort, as the Federal Reserve and Bank of England are.

Three senior ECB policymakers on Thursday rebuffed arm-twisting from investors and world leaders to intervene massively on bond markets to shield Italy and Spain from financial contagion.

Germany Economy Minister Philipp Roesler said on Friday the ECB did not have "unlimited firepower," adding that if it opened its floodgates fully, they could never be closed again.

Germany strongly opposes the ECB taking on a broader crisis-fighting role, arguing this would compromise the independence of the bank.

The euro zone's plan for a more powerful rescue fund may also be running into trouble.

Klaus Regling, the head of the 440 billion euro European Financial Stability Facility, was reported by the Financial Times as saying the recent market turmoil had made it more difficult to scale it up to 1 trillion euros, as proposed by euro zone leaders who promise a definitive plan by December.

Luring investors by offering insurance on losses, the centerpiece of a plan agreed in Brussels on October 26, would now probably use up more of the fund's resources, Regling said.

"The political turmoil that we saw in the last 10 days probably reduces the potential for leverage. It was always ambitious to have that number, but I'm not ruling it out," the FT quoted him as saying.

Nowotny also expressed concern.

"It is very important that these plans -- actually these decisions -- now really get operational, and I'm a bit concerned that this takes a long time, perhaps too long," he said.

PAPADEMOS IN POWER

In Athens, Greece's prime minister-designate was set to name a new crisis cabinet to calm the political turmoil that has threatened to bankrupt Athens and force it out of the euro zone.

Greece's two main parties agreed on Thursday to make Papademos head of a new unity government, ending a chaotic search for a leader to save the country from default. He must now fulfill the terms of a 130 billion euro bailout plan agreed with European partners in October.

The former ECB vice president faces huge challenges after a chaotic power struggle between Greece's two main political forces.

Sources in the ruling Socialists and opposition New Democracy said Evangelos Venizelos was likely to remain finance minister when the new cabinet is sworn in at a ceremony scheduled for 1400 GMT.

Automotive giant Daimler spoke out against keeping Greece in the euro zone at all costs and said the euro would survive even if it were forced out.

"I wouldn't consider one link splitting off from the rest as a 'break-up' of the euro zone," Chief Executive Dieter Zetsche told Reuters in an interview.

(Additional reporting by Nick Edwards in Beijing, writing by Mike Peacock; Editing by Kevin Liffey)

European stocks were up 0.6 percent in morning trade, led by shares in euro zone banks, such as BNP Paribas and UniCredit, rising on expectation political developments in Greece and Italy could pave the way for tough austerity measures seen as crucial to contain the euro zone's two-year-old debt crisis.

Walt Disney will be in focus after strong results that trumped Wall Street's expectations as advertisers spent more at cable networks like ESPN and consumers kept going to theme parks despite a rough economy. The company's shares traded in Frankfurt were up 4.6 percent.

U.S. coal group Peabody Energy Corp extended its $5 billion bid for Australian peer Macarthur Coal by two weeks after failing to reach the 90 percent threshold for acceptances by its Friday deadline.

Nvidia Corp's third-quarter results beat estimates as the chipmaker refocused on smartphones and tablets in a tepid personal computer market.

Exxon Mobil has signed oil and gas exploration deals with Iraq's Kurdistan, becoming the first oil major to deal with the region which has had strained relations with Baghdad, an adviser to the Kurdish government said on Friday.

Caterpillar said it will offer to buy Chinese group ERA Mining Machinery to strengthen its mining business and ramp up investment in the fast-growing country, in a dual-option deal that could be worth up to $885 million.

Vivendi's Universal Music unit is closing in on a $1.9 billion deal to buy EMI's recorded music business, which could be announced early next week, the Financial Times reported on Friday, citing people familiar with the talks.

On the economic front, Thomson Reuters/University of Michigan Surveys of Consumers was due to release its preliminary November consumer sentiment index. A Reuters poll found a forecast for a reading of 61.5 compared with 60.9 in the final October release.

U.S. stocks bounced back on Thursday from the previous session's steep losses as investors latched onto positive corporate and economic news, in the absence of a clear worsening in Europe's debt crisis.

The Dow Jones industrial average was up 112.92 points, or 1.0 percent, at 11,893.86. The Standard & Poor's 500 Index was up 10.60 points, or 0.9 percent, at 1,239.70. The Nasdaq Composite Index was up 3.50 points, or 0.1 percent, at 2,625.15.

(Editing by Dan Lalor)

Obama spoke with German Chancellor Angela Merkel and French President Nicolas Sarkozy late on Thursday and also called Italian President Giorgio Napolitano. Treasury Secretary Timothy Geithner demanded fast action from Europe.

"The crisis in Europe remains the central challenge to global growth. It is crucial that Europe move quickly to put in place a strong plan to restore financial stability," Geithner said in a statement following a meeting with finance ministers from the Asia Pacific Economic Cooperation countries.

After months of dithering and delay, Rome appears to have got to the message after bond markets pushed it to the brink.

The Italian upper house is due to vote on a package of cuts later in the day. The law should pass easily, as it should in the lower house on Saturday.

Voting for the first time in the upper house will be Mario Monti, the former European Commissioner who has emerged as favorite to replace Silvio Berlusconi as prime minister.

Berlusconi, who lost his majority in a vote on Tuesday, has promised to resign after the financial stability law is passed by both houses of parliament.

If the votes pass smoothly, Napolitano may accept Berlusconi's resignation as early as Saturday night and formally mandate Monti to try to form a new government soon afterwards.

At first, Berlusconi had insisted that early elections were the only option. But he has since softened his stand and is said by sources to be open to a new government.

Markets were calmed at the prospect of an interim government, rather than a three-month vacuum before elections are held.

Monti, a highly respected international figure, has been pushed for weeks as the most suitable figure to lead a national unity government to push through painful austerity measures.

The euro held steady above its recent one-month low but investors were skeptical it would climb far, given that even a technocrat Italian government might struggle to make progress on long-promised, never-delivered fiscal reforms.

Safe haven German Bund futures extended the previous day's losses at the opening on Friday but again trade was cautious.

"Given how far we have widened out in some of these peripherals, we can have maybe two or three days of calm -- in inverted commas -- but nothing has really changed underneath," one bond trader said.

PAPADEMOS IN POWER

In Athens, Greece's prime minister designate was set to name a new crisis cabinet on Friday to calm the political turmoil that has threatened to bankrupt Athens and force it out of the euro zone.

Greece's two main parties agreed on Thursday to make Lucas Papademos head of a new unity government, ending a chaotic search for a leader to save the country from default. He must now fulfill the terms of a 130 billion euro bailout plan agreed with European partners in October.

"The path will not be easy but I am convinced the problems will be resolved faster and at a smaller cost if there is unity, understanding and prudence," Papademos said on Thursday.

He was left working alone in his new prime ministerial office on Thursday night after talks on the new government ended with no sign of an agreement.

Sources in the two parties -- the ruling Socialists and the opposition New Democracy -- said Evangelos Venizelos was likely to remain as finance minister when President Karolos Papoulias swears in the new cabinet, scheduled for 1200 GMT (7 a.m. ET).

With European leaders dithering over how to tackle the deepening crisis, pressure has mounted on the European Central Bank to act more forcefully.

Three senior ECB policymakers on Thursday rebuffed pressure from investors and world leaders to intervene massively as a lender of last resort on bond markets to shield Italy and Spain from financial contagion.

The euro zone's plan for a more powerful rescue fund may also be running into trouble.

Klaus Regling, the head of the 440 billion euro European Financial Stability Facility, was reported by the Financial Times as saying the recent market turmoil had made it more difficult to scale it up to 1 trillion euros, as planned by EU leaders.

Investors have fled from bonds issued by highly indebted countries. Luring them back by offering insurance on losses, the centerpiece of a plan agreed in Brussels on October 26, would now probably use up more of the fund's resources, Regling said.

"The political turmoil that we saw in the last 10 days probably reduces the potential for leverage. It was always ambitious to have that number, but I'm not ruling it out," the FT quoted him as saying.

(Writing by Mike Peacock)

Commodities mostly rose as investors' appetite for riskier assets was boosted somewhat by signs of a slight improvement in the U.S. economy, but caution remained to the fore amid a European debt crisis that appeared no closer to resolution.

"Event risk is still rampant across markets and that trend is going to continue until there is a proper resolution to the euro zone crisis," said IG Markets analyst Stan Shamu.

Data on Thursday showing U.S. jobless claims fell to a 7-month low contributed to some easing of risk aversion, which nudged up yields on Japanese government bonds and shrank Asian credit spreads a touch.

Japan's Nikkei share average .N225 rose 0.2 percent and MSCI's broadest index of Asia Pacific shares outside Japan climbed 1.2 percent, recouping some of the losses suffered in a sharp sell-off in the previous session.

Financial bookmakers forecast the FTSE 100 .FTSE to open up 0.7 percent, and called Germany's DAX .GDAXI up 0.7 percent and France's CAC-40 .FCHI up 0.5 percent. .EU .L

U.S. stocks had risen nearly 1 percent on Thursday, after drugmaker Merck & Co (MRK.N) cheered investors by raising its dividend and network equipment maker Cisco Systems (CSCO.O) reported earnings that beat analysts' expectations. .N

Citi analysts said the Asia ex-Japan region saw accelerated fund inflows in the week ending in Wednesday, compared with the previous week, with Hong Kong and China the main beneficiaries of new money.

Nonetheless, the MSCI Asia ex-Japan index remains nearly 20 percent below its 2011 high reached in April. Both the Nikkei and the MSCI Asia ex-Japan were on course for weekly losses of more than 3 percent.

UNSUSTAINABLE COST

Italy, the latest euro zone nation to find itself in the bond market's crosshairs, moved closer to a national unity government on Thursday, while its treasury managed to sell 1-year bills at yields of less than 7 percent -- the threshold that investors believe renders its debt burden unsustainable.

Market players were split, however, on whether to fret that Rome was paying the highest interest rate on its borrowing in 14 years or celebrate that it was able to hold a successful bond auction at all.

"Some took the Italian auction as good news because it wasn't a worst-case scenario, but overall, the situation there is a minus, and not a plus," said Yutaka Miura, senior technical analyst at Mizuho Securities in Tokyo.

The prospect of Italy buckling under its 2 trillion euro debt load has raised fears over Europe's two-year-old crisis to a new level, because the euro zone's bailout fund (EFSF) is not big enough to rescue the bloc's third largest economy.

"Italy's funding vulnerability presents a serious risk to the global financial system and forces euro zone leaders to grapple with a lose/lose dilemma," wrote RBS macro credit analysts Edward Marrinan and Edward Young in a note.

"Leave one of the euro area's largest economies at the mercy of the funding markets or deploy the under-resourced EFSF in an effort to stabilize the country's borrowing costs."

The euro traded around $1.3620, up around 0.1 percent on the day and well above Thursday's trough at $1.3481. The dollar eased 0.2 percent against a basket of currencies .DXY.

Spreads tightened on the Asia ex-Japan iTraxx investment grade index, a gauge of risk appetite, while the yield on 10-year Japanese government bonds rose 0.5 basis point to 0.965 percent.

Commodity markets were mostly firmer, with London Metal Exchange copper gaining 0.9 percent and gold rising 0.4 percent to around $1,767 an ounce.

But oil markets were mixed after a 2 percent rally the previous day, with U.S. crude up 0.3 percent at just over $98 a barrel while Brent crude slipped 0.1 percent to around $113.60.

"We had some good news yesterday from Italy on their bond sale, but the oil market is trading from headline to headline," said Ben Le Brun, market analyst at OptionsXpress in Sydney.

"Right now there's not enough to give investors a clear direction for prices."

(Additional reporting by Umesh Desai in Hong Kong and Lisa Twaronite in Tokyo; Editing by Kavita Chandran)