Stocks retreated on Friday as political instability in Europe overshadowed encouraging domestic jobs data and investors focused on the uncertainty surrounding a confidence vote in the Greek parliament after U.S. markets close.

Financial markets have been engulfed by volatility less than a week after investors thought they had a framework for a solution to Europe's woes. The vote on the Greek Prime Minister leaves the fate of $130 billion bailout deal hanging in the balance with investors again chewing over worst-case scenarios.

My main conclusion is that, strip away the debt and everything else, having Greece in the euro is untenable, said Jack Ablin, chief investment officer at Harris Private Bank in Chicago.

Ablin, who just returned from meeting with economists in Athens, said he believes the nation is on a slow and painful road to abandoning the euro and reinstating the drachma, an outcome that could spell months of trouble in financial markets.

Stock sectors most exposed to weakness in European banks and tied to growth, such as industrials, financials, materials and energy were among the weakest. The S&P's financial index led losses, falling 1.7 percent.

Although the S&P 500 has rallied 14 percent since its October low to the upper end of its recent trading range, the market has struggled to move higher and the outlook for Europe continues to be murky.

The Dow Jones industrial average dropped 89.80 points, or 0.75 percent, to 11,954.67. The Standard & Poor's 500 Index fell 10.15 points, or 0.80 percent, to 1,251.00. The Nasdaq Composite Index lost 13.08 points, or 0.48 percent, to 2,684.89.

Financial shares slumped, with the KBW capital markets index down 1.6 percent.

Shares of Jefferies Group Inc lost as much as 7.4 percent after brokerage Keefe, Bruyette & Woods cut Jefferies target price but said the investment bank is being unjustly punished over perceived exposure to the European debt crisis.

The shares recovered by the afternoon to trade almost flat at $11.98 after losing nearly 20 percent this week.

German Chancellor Angela Merkel said hardly any countries in the Group of 20 industrialized nations are willing to participate in the euro zone bailout fund, throwing cold water on plans to stabilize Europe's sovereign debt crisis.

Labor Department data showed U.S. hiring slowed in October but the unemployment rate hit a six-month low and job gains in the prior two months were stronger than previously thought, pointing to some improvement in the still-weak labor market.

Point one right now is clearly the Greek situation because that thing has got to be resolved very soon or else there will be issues that we are not going to care to address, said Cummins Catherwood, managing director at Boenning and Scattergood in West Conshohocken, Pennsylvania.

We are all absolutely transfixed by this and it has overcome the jobs report today, which was mildly encouraging but again nothing to write home about.

The PHLX Europe sector index, which includes major European shares, dropped 2.3 percent.

The focus on developments from Europe has kept stock trading volatile, with the S&P 500 index swinging more than 1.5 percent every day this week. The index is on track to post its first negative week in five after closing on Monday with its best month in 20 years.

In a move to make its deficit targets credible, Italy agreed to have the International Monetary Fund monitor the country's progress with long delayed reforms of pensions, labor markets and privatization. Italy's debt burden could be the market's next target after a resolution of Greece's finances.

Shares of daily deals site Groupon Inc rose more than 50 percent in their stock market debut, but at least some of the early trading exuberance may have come from limiting the fraction of the company that was sold.

(Editing by Kenneth Barry)