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Gov't shutdown fears spook Wall Street; stocks fall

Stocks finished in the red Friday as mounting concerns of a potential government shutdown spooked Wall Street.

"It looks like we're going to have a [government] showdown on Monday and a showdown on Monday is a problem for traders and portfolio managers as it's the end of the quarter," said Art Cashin, director of floor operations at UBS Financial Services.

The Dow Jones Industrial Average dropped 70 points to finish in the red for the sixth day in seven, dragged by Cisco and IBM. The S&P 500 and the Nasdaq also ended in negative territory.

The Dow and S&P 500 slumped more than 1 percent for the week.

"If you believe as I do that somehow or another this government shutdown issue will be resolved before, on, or a little after the cutoff date, you may want to consider nibbling on the long side if the S&P goes down to the 1,670 area," wrote Elliot Spar, market strategist at Stifel Nicolaus. The S&P ended Friday at 1691.75. 

The CBOE Volatility Index (VIX), widely considered the best gauge of fear in the market, spiked near 16.

Most key S&P sectors closed in the red, dragged by telecoms and materials.

On the economic front, consumer sentiment fell to 77.5 in September, hitting its lowest in nearly five months, according to the Thomson Reuters/University of Michigan's final reading on the overall index. The reading was lower than the 78.0 economists had expected in a Reuters poll, but still higher than a mid-month preliminary reading of 76.8.

Household spending ticked up 0.3 percent in August, according to the Commerce Department.

Budget spending must be agreed by Congress before October 1 to prevent a government shutdown which could involve federal employees facing unpaid temporary leave and a delay in the payment of military personnel. Most analysts expect a deal to be reached, even if it is at the last minute, since lawmakers are unlikely to want to risk any fallout at the 2014 Congressional elections.

(Read more: Small business fears of Obamacare may be overblown)

Worries over a potential partial government shutdown next week helped kept buyers on the sidelines.

The Senate passed a short-term spending bill that would help U.S. agencies operating after Sept. 30 when the fiscal year ends. The measure must now be approved by the Republican-controlled House.

"It's hard to forecast the behavior of politicians—but part of the negotiating tactics in these situations seems to be taking it to the eleventh hour," said Lawrence Creatura, portfolio manager of the Clover Small Value Fund at Federated Investors. "We've faced times like this in the past and the sun rises again over the stock market—so often times, the barks surrounding these events are much worse than the eventual reality…but in anticipation of the choppiness, investors can go into the defensive sectors."

(Read more: Brawl in US Congress—should the world care?)

Also keeping traders on edge, Chicago Fed president Charles Evans said the central bank could start reducing its asset purchases this year based on economic forecasts but the decision to wind back stimulus may be delayed to next year.

Meanwhile, New York Fed President William Dudley reiterated his stance for the central bank's bond-buying program, saying the labor market is not yet healthy and inflation should firm in the months ahead.

And Minneapolis Fed president Narayana Kocherlakota said the next Fed chairman will need to resist the temptation to wind down the central bank's monetary stimulus in the face of rising criticism of the super-easy policies. Ben Bernanke's term as Fed chairman ends in January and current Vice Chair Janet Yellen is widely seen to be his likely successor.