Crude Breaches $70

Fears of Ernesto hitting Gulf ebb; oil drops 90 cents.
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Updated from 12:23 p.m. EDT

Crude prices fell below $70 a barrel Tuesday as Tropical Storm Ernesto headed for Florida and away from the Gulf of Mexico's oil installations.

October light sweet crude closed down 90 cents to a 10-week low of $69.71 a barrel. Heating oil slipped 2 cents to $1.94 a gallon, and natural gas gained 34 cents to $6.81 per million British thermal units. The expiration today of the September natural gas contract injected more volatility into the market.

"There is very little on the physical fundamentals side that supports $70-plus oil," said Bart Melek, senior economist at BMO Nesbitt Burns in Toronto. "Based on the fundamentals alone, light crude prices should likely be $10 to $15 lower than they are now."

The storm, which hit Cuba yesterday, was moving west-northwest toward Florida and the Eastern Seaboard with winds of 45 miles per hour. Forecasters at the National Hurricane Center said Ernesto could strengthen into a hurricane when it hits Florida tonight. A hurricane watch was in effect for the Florida Keys.

The hurricane season this year has been relatively quiet, with only five named storms and no hurricanes. There were 28 storms and hurricanes last year.

Leading up to the one-year anniversary of Hurricane Katrina, traders had been anxious the tropical storm would aim for the Gulf of Mexico and damage the region's oil and natural gas industry.

Last year, Katrina shut down much of the area's oil and natural gas production and drove prices to levels not seen since the early 1980s. One year later, 12% of the Gulf's oil output is still out of commission.

Traders were also awaiting the Department of Energy's weekly petroleum supply report due out Wednesday at 10:30 a.m. EDT. In a

Bloomberg

poll, crude stockpiles were expected to fall 1.4 million barrels from 330.4 million barrels last week, as refiners increased gasoline production and imports rose. Refining run-rates probably came in at 93%, up 0.2%.

A drop in gasoline supplies won't make that big of a dent in storage levels, because inventories are nearly 5% above last year. The expected decline in stockpiles drove up gasoline futures by 1 cent to $1.78 a gallon. Gasoline was last this low in March.

Gasoline consumption typically soars during the summer, when millions of Americans go on vacation, and tapers off after Labor Day. Supplies likely declined by 600,000 barrels, though they are about 3% higher than this time last year.

Sluggish demand and high production levels probably pushed distillate supplies up by 1.2 million barrels from 135.5.

Despite robust domestic inventories, oil prices could quickly rebound later this week if Iran misses a U.N. deadline to halt its nuclear program. The West hammered together a set of trade incentives aimed at getting Iran to halt uranium enrichment and has threatened trade sanctions if Tehran does not accept the offer. Iranian officials have instead vowed to expand their nuclear activities.

Oil prices are up 19% this year, thanks largely to Iranian rhetoric, rebel attacks on Nigeria's oil industry and booming demand in China and India. Traders typically bid up crude prices every time there is a real or perceived threat to global supplies, because there is little surplus to cover spikes in demand.

Among equities, energy shares were shedding 0.9% on the Amex Oil Index. Leading decliners were

Sunoco

(SUN) - Get Report

,

BP

(BP) - Get Report

and

Marathon Oil

(MRO) - Get Report

, which were each down about 2%.

Shares of

BP

(BP) - Get Report

were slipping $1.16, or 1.7%, to $67.14 after the oil company said federal officials were investigating whether BP had manipulated U.S. oil and gasoline markets, the

Wall Street Journal

reported. The news came on the heels of another investigation about whether BP traders manipulated the propane market.

BP executives are scheduled to testify next week before Congress to answer questions about its pipeline problems in Alaska. Earlier this month, leaks and corrosion shut down half of the Prudhoe Bay oil field in Alaska, at 400,000 barrels per day the country's largest source of oil.