Oil Drops on US Stockpiles, Natural Gas Moves Closer to $5

Despite a high near $72, the price of crude oil tumbled Wednesday to settle below $70 on US builds in product inventories. On the other hand, natural gas found some strength, gaining a few cents to close closer to the $5 mark.

Sparked by an unexpectedly high build in inventories, the price of crude oil fell $1.31 on the New York Mercantile Exchange Wednesday to settle at $69.57 a barrel.

According to a report today from the US DOE's Energy Information Administration, the country's inventory of gasoline rose by some 2.9 million barrels, calling into question energy demand for the world's biggest consumer.

Build in US Inventories Brings on the Bears

"That was a pretty substantial build, and a lot of the recent strength in crude has been tied to the gasoline market," explained Rick Mueller, director of oil markets at Energy Security Analysis Inc. in Wakefield, Massachusetts. "Today's report is the last nail in the coffin to say the driving season is really done."

Last week, the crude oil market found bullish strength from an unexpected draw in gasoline supplies, despite the passing of Labor Day marking the end of the summer driving season. That number has been overturned with this week's inventory report.

"Demand is down, and the market is going to have to start looking at the much more bearish distillate market for direction from the products," Mueller added.

The crude oil market will now look to the winter heating season, reflected in distillates, to define demand. Today's EIA report showed another distillate build, with stockpiles rising some 700,000 barrels.

The EIA also reported that crude oil inventories fell by about 1 million barrels, but this did little to strengthen the price of crude oil.

"Overall inventories are still pretty high, and it was really a case where the imports dropped a bit, and those can fluctuate," explained Mueller. "The fact is that runs didn't seem to jump much, and in fact basically plateaued, and I think folks are expecting that crude runs will fall a bit in the coming weeks as we go into the shoulder season -- it just made folks a little more bearish overall."

Breaking Out of the Current Range

For the last several months, the price of crude oil has been locked in a trading range, despite a number of attempts to break out of it both to the top and bottom.

"I think we've been in this $65/$75 range for so long now; it is really going to take something pretty dramatic to spook the market out of that, and I don't really see anything on the horizon strong enough to do that," Mueller said.

While the market has experienced weakened supply and demand fundamentals, the price of oil has been trading on positive economic news that the recovery will spur a revival in energy demand. The bulls also look to worldwide situations that might curb supply, such as violence in Nigeria and escalating tensions with Iran.

"Maybe if things with Iran heat up, and we see a real ratcheting up of the rhetoric and realistic discussions that the Western powers are actually going to take military action, that certainly would get the market's attention; but I think that is unlikely," Mueller added. "It does seem like the rhetoric is certainly getting more stable and more calm, and that the Iranians so far are making some gestures in terms of sending the fuel out to get processed in France or Russia, suggesting that they don't want to see this get too much more intense."

On the other hand, the bears have been pointing to weak fundamentals for some time, further supported by today's EIA report.

"Personally, I think the fundamentals are still fairly weak, and I would have expected to see crude prices go a bit further down," Mueller continued. "The market seems very well supplied. Demand is still down quite a bit this year, nearly 2 million barrels a day. OPEC's spare capacity has risen to really comfortable levels."

Nonetheless, the price of crude oil has continued to be range-bound. Both producers and buyers seem to be content with the current price of oil.

"In a way, it's been surprising that the price has been as resilient as it has, but I think the market is just resetting its expectations, and so it looks at the $65 to $75 range as a comfortable period now, and I just don't see enough pressure out there to push it down -- unless we see much worse economic news," Mueller stated.

If data points to a weaker economic recovery in the US, then the price of oil might drop out of range, he continued.

"The unemployment report this month was certainly worse than expected," Mueller stated. "If that number continues to rise as it has, suggesting that maybe the US recovery is not as strong as people have been expecting, that could be enough to push us down out of the range -- but it's going to take another month or two of pretty bad unemployment numbers to do that."

Natural Gas Remains Strong

The price of natural gas remained strong Wednesday in trading on the NYMEX, settling 2 cents higher than yesterday to close at $4.904 per thousand cubic feet.

While just a month ago the price of natural gas was hitting seven-year lows, the market has experienced a massive turnaround, nearly doubling in price.

Some analysts point to short-covering as a reason for the rally, and others believe seasonal domestic demand has helped to rally the natural gas market.

Even though supply and demand fundamentals remain relatively weak, the impending winter heating season has helped to spur investment in natural gas. Additionally, major US producers have stated that the price must increase in order for production to continue.