U.S. stocks rallied on Thursday, moving the S&P 500 back in positive territory for 2011 ahead of the last trading day of the year, on more positive signals on the U.S. economy.

The S&P 500 edged above its 200-day moving average, a key measure of the market's long-term momentum, but scant volume increased volatility, and made the gains harder to trust.

Europe's sovereign debt crisis has been the primary concern for U.S. investors in 2011. Mixed results on an auction of long-term Italian bonds was another sign bond markets remain worried about the euro zone.

With trading thin, the only bit of suspense left for U.S. investors is whether the S&P 500 will end positive for 2011 or not. It is now up 0.4 percent for the year, the closest it has been to unchanged for a year since 1970.

Equities are gravitating towards that 1,260 mark on the S&P to get the end of the year in the green, said Joe Cusick, senior market analyst at optionsXpress.com in Chicago.

The Dow Jones industrial average <.DJI> shot up 135.63 points, or 1.12 percent, to 12,287.04 at the close. The Standard & Poor's 500 Index <.SPX> gained 13.38 points, or 1.07 percent, to 1,263.02. The Nasdaq Composite Index <.IXIC> advanced 23.76 points, or 0.92 percent, to 2,613.74.

Banks were the biggest gainers along with commodity-related sectors, which sold off hard on Wednesday. JPMorgan Chase & Co gained 2.4 percent to $33.42. The S&P financial index <.GSPF> rose 1.6 percent, while the capital goods sector <.GSPIC> added 1.3 percent. Shares of Dow component Caterpillar advanced 1.4 percent to $90.58 while Alcoa , another Dow stock, rose 1.3 percent to $8.63.

Cusick added that strength in offensive sectors like banks, materials and industrials could be a catalyst for stocks to end the year higher.

Italian bond yields, which helped break a five-day rally with a sharp selloff in the last session, eased on Thursday after a debt auction.

Stocks added to gains after the euro erased losses against the dollar, rebounding from a 15-month low in thin trading.

But the yield on 10-year Italian bonds hovered near 7 percent, a level markets see as a danger zone for Italy's government debt.

Pending sales of existing U.S. homes surged to a 1-1/2 year high in November, offering more signs of a tentative housing recovery. That report drove the Dow Jones home builders index <.DJUSHB> up 4.3 percent.

In addition, factory activity kept growing in the U.S. Midwest in December, as purchasing managers reported rising prices and employment, even though production eased slightly.

On the down side, initial claims for jobless benefits rose more than expected, giving a mixed labor picture, but investors said the trend was still lower.

Recent economic data, including reports on housing, have been largely positive, contributing to stocks' gains over the past month and bolstering the view that economic growth is picking up steam.

We have seen a pretty encouraging trend in the U.S. economic data over the last two months, said Peter Jankovskis, co-chief investment officer of OakBrook Investments in Lisle, Illinois. If that trend continues, that will provide good support and perhaps some upward momentum.

The next big test for markets in terms of U.S. economic data will be the December payrolls report at the end of next week.

For the year, the Dow is up 6.1 percent and the S&P 500 is up 0.4 percent, while the Nasdaq is down 1.5 percent.

<^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^

For a graphic on markets' performance in 2011:

http://r.reuters.com/xut75s

^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^^>

Amazon.com Inc shares dipped 0.02 percent to $173.86. Goldman Sachs said the online retailer's sales growth in the current holiday quarter could miss expectations.

Diamond Foods Inc shares rose 7.2 percent to $31.51 after CNBC reported rumors that high-profile investor David Einhorn may have invested in the company.

About 4.16 billion shares exchanged hands on the New York Stock Exchange, NYSE Amex and the Nasdaq, well below the year's daily average of about 7.9 billion shares. On the NYSE, four stocks rose for every one that fell. On the Nasdaq, advancers beat decliners by a ratio of more than 2 to 1.

(Reporting By Angela Moon; Editing by Jan Paschal)