Oil Price Gains Knocked Out

NEW YORK (TheStreet) -- Oil prices were thrown back into negative territory by the end of Friday's trading session as headline risk from the U.S. and Europe and the reduction of demand-growth forecasts by three major oil organizations knocked the wind out of the earlier rebound.

West Texas Intermediate light sweet crude oil for September delivery fell 34 cents to settle at $85.38 a barrel, after achieving a one-week high, as traders once again became overwhelmed by ominous economic news.

On the other hand, Brent crude oil prices for September delivery settled a tad higher, up just 1 cents to $108.03, thanks in part to a shortfall of Libyan crude oil.

The WTI contract had been rebounding Friday on strong retail sales readings and the banning by European financial regulators of the short-selling of certain financial stocks in an effort to restore certainty to the markets.

But it wasn't long before doubts about the sustainability of the rally crept into the psyche of traders. After all, the University of Michigan's consumer sentiment reading dipped more than expected to 54.9 in August; France's economy had unexpectedly stalled in the second quarter; and eurozone industrial production fell 0.7%.

"Dark clouds over the economy are already impacting the market's direction," the Organization of the Petroleum Exporting Countries said in a monthly report this week.

OPEC now thinks that global oil demand will increase by 1.21 million barrels a day in 2011, which is 150,000 barrels fewer than what was expected a month ago. The organization's growth forecast for 2012 was cut by 20,000 barrels a day to 1.3 million barrels.

Meanwhile, the Energy Information Administration this week cut its global oil demand growth forecast for this year by 60,000 barrels a day to 1.37 million barrels. The negative revision was accompanied by the International Energy Agency's warnings that it may have to more than halve its oil demand growth outlook for next year if global economic growth slows to 3%.

U.S. Treasuries were rallying Friday as safe assets remained in demand.

Argus Research analyst Phil Weiss says that high inventory levels at Cushing, Okla., the main U.S. delivery point for oil, lower Brent crude production and the loss of Libyan barrels continue to support WTI and Brent crude price differentials.

"For now, I think the Saudis can replace Libyan production, but the thing to remember is that even if they do, the type of oil will be different," Weiss said. "The Saudis are already producing as much light, sweet crude as they can. Any additional Saudi supply will be heavier or more sour -- it will be lower-quality. European refiners, in general, are not configured to process such crudes. The ramifications of this are seen throughout the refining market, as differentials on lower quality crudes are relatively wide."

The lost Libyan barrels were light, sweet crude oil.

Weiss believes that the biggest beneficiaries of these differentials are producers whose production is more heavily weighted toward crudes other than WTI. They include Apache(APA) among the independents, Chevron(CVX) among the integrateds; and HollyFrontier(HFC), Valero(VLO) and Sunoco(SUN) on the refining side.

Analysts such as PFGBest's Phil Flynn foresee the possibility of a differentials reduction due to weakening global oil demand. "The Saudis have risen to the occasion [in trying to fill the Libyan supply gap], but the question is whether they will keep pumping ... there's now a concern they will need to cut production to meet a glut."

-- Written by Andrea Tse in New York.

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