Oil price fall raises prospect of return to $100 a barrel

As Hurricane Gustav, downgraded to a tropical storm, spent its force inland yesterday, the oil price dropped to a five-month low and raised the prospect of falling back below $100 a barrel.

Prices had been falling stead-ily since early July's unprecedented high of $147. But Gustav's approach to the Gulf of Mexico – which accounts for a quarter of US oil production and more than a third of its refining capacity – had pushed prices up to around the $116-mark as 1.3 million barrels per day of offshore production and 2.67 million barrels per day of refinery capacity was closed down.

With the worst over, the market returned to its more bearish stance. In the US, crude oil closed down $5.75 at $109.71 – after falling as low as $105.46 – while in London Brent crude fell $1.07 to $108.34. Stock markets on both sides of the Atlantic rallied in response, though the Dow fell late in the day to end slightly lower. In the UK, British Airways gained 4.39 per cent, Ryanair 8.51 per cent and easyJet 10.73 per cent.

The sliding oil price reflects a change in market sentiment since the early summer, says John Waterlow, a principal analyst at Wood Mackenzie. "The market had been driven up and up by a frenzy of concern about future supply, until the realisation dawned that demand was not growing as rapidly as had been thought and the high price was actually affecting global demand."

The growing strength of the dollar also has a role to play because one of reasons oil was going up so fast earlier in the year was because it was being used as a hedge and bought in the place of currency. Notwithstanding the twitches over Gustav, the relatively calm response to Russia's military action in Georgia indicates the strength of the changing sentiment. "An event like that a year ago would have pushed the price up like a rocket overnight," Mr Waterlow said. "But this time there was surprisingly little impact, because there has been such a sea change in attitudes to the fundamentals of supply and demand."

But despite the apparent re-balancing, and some considerable chance of the price dropping below the psychologically important $100 mark, it is unlikely it will fall much lower. Not only do geopolitical factors such as Iran's putative nuclear programme and Russia's deteriorating relationship with the West still exist, but Opec would quickly step in to restrict production. "The market might soften further but we will not go back to $50-a-barrel oil," Mr Waterlow said. "Since the Asian economic crisis in the 1990s, Opec has been obsessed with avoiding another spiralling fall in oil prices and will micromanage production levels to make sure it never happens again."