Rising US oil output leads to big drop in price of crude

The price of US light crude oil tumbled today, after reports showed Chinese manufacturing contracted more than expected and US crude production rose last week to its highest level in more than 20 years.

By mid-afternoon in New York, crude oil futures had fallen 2% to around $105 per barrel. The price was pressured earlier in the day by the results of the latest purchasing managers survey for the Chinese manufacturing sector.

HSBC/Markit announced that the ‘flash’ (that is, preliminary) estimate for July was 47.7, down from June’s final reading of 48.2. This is the third month in a row in which Chinese manufacturing has come in below the 50-mark that divides expansion from contraction and this latest reading marks an 11-month low. This has created worries that China may be facing a precipitous slowdown. Such a scenario would almost certainly depress oil demand, as China has the second largest economy in the world.

The real slide in oil prices occurred after the release of the Energy Information Administration’s (EIA) weekly petroleum status report though. Data in the report showed that crude oil inventories fell by 2.83 million barrels, a slightly bigger draw than had been anticipated. Initially this supported the price of oil, with the price moving back towards $107 in the immediate aftermath of the report’s release, but eventually attention switched to the rising level of domestic oil production.

The US output of crude last week was up 0.9% at 7.56 million barrels per day. This is the highest level seen since December 1990 and it was only on account of very high demand that the crude stockpile decreased. This is a good sign for the economy, but oil prices are at fairly high levels, and with capacity utilisation at refineries dropping 0.5% last week to 92.3%, it’s possible that we may have seen a peak in gasoline demand for this summer.

If demand does not stay this strong, and in the absence of any heightening in geo-political tensions, we would expect to see crude inventories start to rise given the high level of crude output. With crude supplies at historically high levels already, the price of crude could be facing some headwind.

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