Oil dropped more than $6 on Wednesday (NZT), the largest drop in dollar terms in 17 years, as growing concern about the economic health of top energy consumer the United States stirred demand worries.
US Federal Reserve Chairman Ben Bernanke said financial markets were under "considerable stress", adding to concerns about the strain of the weak housing market and high energy and food prices on the US economy.
US crude settled down $6.44 at $138.74 a barrel, the biggest one-day drop since 1991, when prices retreated at the start of Operation Desert Storm. The session low was notched at $135.92 earlier.
London Brent crude fell $5.17 to $138.75.
"It would appear to be some large-scale bank liquidation - not a specific bank but banks in general," said Addison Armstrong, director of market research for Tradition Energy in Stamford, Connecticut.
Investors have piled into oil and other commodities this year as a hedge against inflation and the weak dollar, pushing crude up nearly 50 percent to over $147 a barrel this month.
The gains extended a six-year oil rally launched as surging demand from emerging economies like China and India stretched supply growth.
But consumers in large economies like the United States, already feeling the pinch of the credit crunch and housing crisis, have begun to scale back on energy use with US summer gasoline consumption falling from last year.
Fed chair Bernanke acknowledged that financial markets had grown more anxious, particularly over the financial condition of mortgage finance companies Fannie Mae and Freddie Mac.
"The market is beginning to take notice of downbeat forecasts, as in what Fed Chairman Bernanke has warned about the risks to the economy," said Andy Lebow, broker for MF Global in New York.
"For the oil markets, that weighs heavily on demand. As the US economy continues to struggle, demand for oil going forward is worrisome. On gasoline, for example, demand has contracted already and refinery margins are going down."
US retail gasoline demand plummeted more than 5 percent last week from a year ago as high gasoline prices kept drivers off the road, MasterCard Advisors said.
Oil cartel OPEC has cut its global demand forecast for 2008 for the fourth time this year, adding consumption would continue to slow in 2009.
Adding downward pressure on prices, Brazilian oil giant Petrobras said its oil output was back at full capacity and would remain so through the end of a five-day energy workers strike that started on Monday (NZT).
Chevron restored production at the 120,000-barrel-per-day Escravos pipeline in Nigeria, resolving one of the disruptions that have cut the African country's supply.
Traders are keeping a watch on a low-pressure weather system about 1,200 miles (1,931 km) east of the Lesser Antilles which may develop into a tropical depression.
A revised Reuters poll ahead of weekly US inventory data to be released on Thursday (NZT) forecast US crude stocks fell 2.1 million barrels last week, while gasoline inventories dropped 400,000 barrels and distillates rose by 2.0 million barrels.
As America works through its economic woes, the New Zealand dollar rose three-quarters-of-a-cent against the greenback overnight to trade at 77.27 US cents.
