US STOCKS-Wall St falls after strong payrolls report

* Feb U.S. payrolls growth tops expectations

* Apple (NasdaqGS: AAPL - news) to replace AT&T (Sao Paolo: ATTB34.SA - news) in Dow industrials

* Indexes off: Dow 1.17 percent, S&P 1.1 percent, Nasdaq 0.88 percent (Updates to afternoon, adds comments)

By Sinead Carew

NEW YORK, March 6 (Reuters) - U.S. stocks retreated on Friday, with the S&P 500 index poised for its second straight weekly drop, as a strong monthly jobs report fueled expectations for an interest rate hike by the Federal Reserve this year, possibly sooner than anticipated.

U.S. nonfarm payrolls rose 295,000 last month, topping estimates for a gain of 240,000, after a downwardly revised 239,000 increase in January. The unemployment rate fell to 5.5 percent from 5.7 percent in January.

Many investors had held off making big bets ahead of the report, which is seen as a good gauge for timing the Fed's first rate hike in years. But relatively light volume on Friday suggested a continued lack of clarity about when the Fed will move, said Andrew Frankel, co-president of Stuart Frankel & Co in New York.

"At least for now people are sitting on their hands trying to get an understanding for further direction," Frankel said. "I see conviction when you see big volume on a move. I think it's still up for debate."

At 12:38PM (1738 GMT) the Dow Jones industrial average was down 212.41 points, or 1.17 percent, to 17,923.31, the S&P 500 had lost 23.14 points, or 1.1 percent, to 2,077.9 and the Nasdaq Composite was off 43.63 points, or 0.88 percent, to 4,939.18.

The S&P 500 was down 1.3 percent for the week, the Dow was down 1.1 percent and the Nasdaq was off 0.5 percent.

In a shakeup of the Dow Jones industrial average, Apple Inc , the largest U.S. company by market value, will join the index this month, replacing AT&T Inc. Apple shares rose as high as $129.37 and last traded up 1.1 percent to $127.47, while AT&T fell 1.6 percent to $33.47.

"This brings the Dow into reality and the twenty-first century," said Richard Sichel, chief investment officer AT Philadelphia Trust Co in Philadelphia. "It will make the Dow a more interesting index to watch, but also more volatile since it is replacing a nice, steady old name with an interesting and exciting tech and retail company."

The S&P utilities sector was the worst performer on Friday with a 3.2 percent decline as investors fled the high-yielding stocks as they appeared less attractive than government bonds with the prospect of an interest rate hike.

All of 31 U.S. banks scrutinized passed a test of how they would do in another possible economic crisis, the Fed said on Thursday, but those with large trading books came out weak because of new elements in the check-up. Bank of America shares rose 2.3 percent to $16.36.

Declining issues outnumbered advancing ones on the NYSE by 2,639 to 413, for a 6.39-to-1 ratio on the downside; on the Nasdaq, 1,848 issues fell and 802 advanced for a 2.30-to-1 ratio favoring decliners.

The benchmark S&P 500 index was posting 13 new 52-week highs and three new lows; the Nasdaq Composite was recording 54 new highs and 34 new lows. (Additional reporting by Ryan Vlastelica and Chuck Mikolajczak; Editing by Bernadette Baum and James Dalgleish)