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Even with the decline, however, the S&P 500 and Dow recorded their sixth straight week of advances. The market has proved resilient despite expectations that stocks were due for a pullback.

Wells Fargo & Co (WFC.N) and US Bancorp (USB.N) lost a ruling by Massachusetts' top court, which said the banks failed to show they held the mortgages at the time they foreclosed.

The court decision is the latest on the validity of foreclosures conducted without full documentation, and the ongoing mortgage fiasco could prove costly for the banks. The news turned the market lower but some said the reaction was overdone.

"Financials have really been a leader in the market in recent weeks -- this could close that sector out," said Nick Kalivas, senior equity index analyst at MF Global in Chicago.

Wells Fargo shares gave up 2 percent at $31.50 and US Bancorp eased 0.8 percent to $25.09. The KBW Bank index .BKX lost 0.9 percent.

The S&P financial index .GSPF rallied more than 10 percent in December as investors searched for bargains at the end of the year.

On Friday the Dow Jones industrial average .DJI slipped 22.55 points, or 0.19 percent, to 11,674.76. The Standard & Poor's 500 Index .SPX was off 2.35 points, or 0.18 percent, to 1,271.50. The Nasdaq Composite Index .IXIC declined 6.72 points, or 0.25 percent, to 2,703.17.

For the week, the S&P 500 rose 1.1 percent, the Dow gained 0.8 percent and the Nasdaq climbed 1.9 percent.

Investors treaded lightly after the employment report, which showed non-farm payrolls rose a less-than-expected 103,000. But overall employment for October and November was revised upward to show 70,000 more job gains than previously reported.

The Labor Department report showed a surprisingly large number of people gave up searching for work, tempering the positive news of a big drop in the unemployment rate.

Analysts said that while the data showed steady, if slow, progress, it did not meet expectations that had risen through the week.

The mortgage issue has been overhanging banks, prompting an uproar last year that led lenders such as Bank of America Corp (BAC.N), JPMorgan Chase & Co (JPM.N) and Ally Financial Inc to temporarily stop seizing homes.

On the upside, the energy sector capped declines as Diamond Offshore (DO.N) rose 4.9 percent to $70.57 after Goldman Sachs upgraded the driller. Goldman also upgraded Baker Hughes Inc (BHI.N) , sending its shares up 3.2 percent at $56.60.

The S&P 500 found support at its 14-day moving average, which is around 1,262. The index briefly broke below that before popping back up.

The disappointing jobs growth figure reported by the Labor Department on Friday suggested the Federal Reserve would likely stay the course with its effort to support the world's biggest economy with the purchase of $600 billion in government bonds.

The department's survey of nonfarm employers showed payrolls increased 103,000 last month, below economists' expectations for 175,000. Private hiring rose 113,000, while government employment fell 10,000.

"What we are seeing is a pace of hiring that is enough to keep us on track, where we stand, which has been a moderate recovery, but not really enough to point to an acceleration from here," said Julia Coronado, a senior economist at BNP Paribas in New York.

Disappointment over the employment gains and a court ruling in a key foreclosure case resulted in a marginal drop in U.S. stock indexes, while prices of safe-haven U.S. government debt rose. The dollar advanced against a basket of currencies.

Softening the blow, overall employment for October and November was revised to show 70,000 more job gains than previously reported. An independent survey this week had led investors to anticipate sturdy payroll gains in December.

The unemployment rate fell to 9.4 percent, the lowest since May 2009 and down from 9.8 percent in November. It was the biggest monthly drop in the rate since April 1998.

But the survey of households from which the unemployment rate is derived showed the big drop was due to both an increase in employment and a sharp decline in the labor force.

"The Fed will not take much comfort in the decline in the unemployment rate when it is not driven by job growth," said Coronado.

BERNANKE MORE OPTIMISTIC

The slow labor market recovery, which is in stark contrast with other sectors of the economy, is unwelcome news for President Barack Obama, whose administration has struggled to boost employment. High joblessness cost his Democratic Party control of the U.S. House of Representatives.

Announcing a new economic adviser, Obama said the trend for job growth was up, but added that more needed to be done.

"We've got a big hole that we're digging ourselves out of. And so our mission has to be to accelerate hiring and to accelerate growth," he said.

Fairly upbeat data on consumer spending, trade and manufacturing have pointed to a strengthening in the economy and Fed Chairman Ben Bernanke struck a slightly more optimistic tone when he appeared before lawmakers on Friday.

"We have seen increased evidence that a self-sustaining recovery in consumer and business spending may be taking hold," Bernanke told the Senate Budget Committee.

Offering no real clues on the future direction of monetary policy, Bernanke sounded cautiously more upbeat than he had in his most recent public remarks. He cited improvements in consumer spending and a drop in jobless benefit claims as hopeful signs a languid recovery was perking up.

"We have seen increased evidence that a self-sustaining recovery in consumer and business spending may be taking hold," the central bank chief said in his first testimony to Congress since the Fed launched a controversial plan to buy an extra $600 billion in government bonds.

Just a month ago, in an interview on the CBS program "60 Minutes," Bernanke voiced a degree of trepidation about the economy's rebound.

His remarks on Friday were made public just an hour after the government reported the economy generated a disappointing 103,000 jobs in December.

Bernanke, who said it would take four to five years for the labor market to get back to normal, showed no inclination toward cutting short the Fed's bond purchase program, designed to stimulate the economy. But he also offered no hints of further buying beyond the program's June deadline.

"The Fed will not rush for the exit," said Lena Komileva, economist at Tullett Prebon. "The potential for further (easing) remains if weak labor and housing activity continue to depress inflation trends."

Financial markets, which focused on the new jobs data, showed little reaction to Bernanke's remarks.

The U.S. jobless rate dropped to 9.4 percent in December, the lowest rate since May 2009 and down from 9.8 percent a month earlier, but the decline was partly due to a troubling rise in the number of people exiting the workforce.

Echoing Bernanke, Fed Board Governor Elizabeth Duke said in a separate speech that the recovery appeared to be gathering steam, but both hiring and inflation would likely remain subdued.

"I am encouraged by signs that the recovery may have gained traction recently," Duke said.

The improvement in the economic backdrop has prompted Wall Street investors to begin pondering a possible reversal in Fed policy as early as the end of this year. In the summer, few expected anything in the way of monetary tightening until at least 2012.

Highlighting lingering concern at the Fed about how deep a hole the economy must climb out of, another official emphasized that the bond-buying program had been necessary to lift a recovery that was too weak to dent high unemployment.

"More recent data have been coming in somewhat stronger," Chicago Fed President Charles Evans said in a speech. "But they do not yet point to the kind of robust, self-perpetuating recovery that we need in order to close today's large resource gaps within a reasonable amount of time.

Evans is one of the most outspoken backers of aggressive Fed actions to spur growth, and is a voter on the central bank's policy-setting panel in 2011.

The disappointing jobs growth figure reported by the Labor Department on Friday suggested the Federal Reserve would likely stay the course with its effort to support the world's biggest economy with the purchase of $600 billion in government bonds.

The department's survey of non-farm employers showed payrolls increased 103,000 last month, below economists' expectations for 175,000. Private hiring rose 113,000, while government employment fell 10,000.

"A very disappointing number that reinforces the idea that we're in for a long, slow jobless recovery. The Fed simply cannot relent until they see unemployment at least below 9 percent," said Brian Dolan, chief strategist at Forex.com in Bedminster, New Jersey.

Tempering the disappointment, overall employment for October and November was revised to show 70,000 more job gains than previously reported.

U.S. stocks opened marginally higher, while Treasury debt prices erased losses on the data. The dollar initially slipped against the euro, but then reversed course.

The unemployment rate fell to 9.4 percent, the lowest since May 2009, from 9.8 percent in November. However, the drop in the jobless rate was mixed news.

A survey of households from which the unemployment rate is derived showed a big increase in employment but also a sharp decline in the labor force. Those factors combined to lead to the biggest drop in the jobless rate since April 1998.

Though the labor market recovery remains very slow, the broader economy is showing signs of strengthening, with data on consumer spending and manufacturing improving.

Federal Reserve Chairman Ben Bernanke, in congressional testimony prepared before the jobs data was public, sounded a slightly more optimist tone than in his last public remarks in early December.

"We have seen increased evidence that a self-sustaining recovery in consumer and business spending may be taking hold," the central bank chief told the Senate Budget Committee, without offering a view on the future course of monetary policy.

MIXED NEWS

Data showing a firming in consumer and business demand had led to calls for the U.S. central bank to scale back its widely criticized bond-purchasing program aimed at keeping interest rates low to boost demand.

Some policymakers indicated in December they had a "fairly high" threshold for curtailing the stimulus program.

Some analysts looked at the drop in the unemployment rate as good news. However, the labor force participation rate, a measure of how many potential workers are actually in the job market, dropped to 64.3 percent, yet another fresh cycle low.