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Sun 21 Aug 2011 08:25 AM

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Oil prices seen high enough to destroy demand

Traders linked modest recovery in Brent prices to attempts by Spain to stimulate growth

Oil prices seen high enough to destroy demand

Brent crude edged higher on Friday after Spanish measures to
address its economic frailty helped to reverse some of the deep sell-off
triggered by concern the world is heading back into recession.

Brent was 32 cents higher at $107.31 a barrel by 1336 GMT,
just off a brief peak of $108.34 and well clear of a session low of $105.06.

US crude shed 79 cents to $81.59 a barrel, up from a low for
the day of $79.17.

The US contract's discount to Brent sagged to a new record
of well over $25 a barrel.

Traders linked the modest recovery in Brent to attempts by
Spain to stimulate growth announced on Friday, which also pushed the euro
higher, while the US dollar weakened.

But traders and analysts also said the mood was still
downbeat.

"This short-term downturn is not done yet. It could
take WTI (US crude) to as low as $75. The fundamental picture is not that bad,
but if the overall economy remains weak, it is very hard to make a case for a
bull run in oil," said Tony Nunan, a risk manager with Mitsubishi
Corporation in Japan.

"What could turn the situation around is if OPEC
tightens supply. The question is at what price trigger it will do that."

Brent has slipped by around 10 percent so far this month,
the most since a 15 percent drop in May 2010.

Technical analysis based on charting previous market
performance pointed to the potential for further falls.

For Brent, the near-term technical target on the downside
was $105.24 per barrel, briefly broken on Friday, while strong bearish momentum
could push U.S. crude to $78.85 per barrel, said Reuters market analyst Wang
Tao.

This month's drop in oil prices has coincided with a wider
market sell-off as investors have fled riskier assets for safer havens, such as
gold , which has scaled a series of records.

The Reuters-Jefferies CRB , a global benchmark for
commodities, fell more than 2 percent on Thursday -- its largest daily decline
since Aug. 8, when energy, metals and agricultural markets slumped following
the Standard & Poor's downgrade of the U.S. triple-A credit rating.

A deep sell-off on Thursday and early Friday took its cue
from US data that showed factory activity in the US Mid-Atlantic region in
August fell to the lowest level since March 2009.

An unexpected fall in existing US home sales in July and a
greater-than-expected rise in new claims for jobless benefits in the latest
week added to anticipation that the U.S. economic recovery could stall and
slide into recession.

Analysts said oil prices were still high enough to destroy
demand in economically fragile consumer countries.

Olivier Jakob of Petromatrix said demand-side risks were
likely to be a bigger factor for now than support from any supply-side risks.

"US crude looks cheap, but in reality oil is still
pretty expensive," he said. "We're coming out of the gasoline season
and looking at the price of heating oil, it's going to be the most expensive
winter ever."

He argued supply disruption from civil war in Libya, which
was producing around 1.6 million barrels per day before unrest erupted in
February, was factored in.

Any loss of production from non-OPEC producer Syria, where
President Bashar al-Assad has stepped up military assaults to quash
demonstrations against his rule, would be too insignificant to have a major
impact, analysts have said.

The initial impact of the loss of production from OPEC
member Libya was to drive Brent prices to a peak for the year above $127 a
barrel in April.

A Saudi-led proposal to increase OPEC to help calm prices
was rejected in June at a meeting of the Organisation of the Petroleum
Exporting Countries, which collapsed without agreement.

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