Oil Retreats, For Now

Investors were too worried about the state of the U.S. economy to celebrate the $6 retreat in the price of oil Tuesday.

Light, sweet crude for August delivery dropped $6.44 to settle at $138.74 a barrel on the New York Mercantile Exchange as traders bet that the weak economy in the United States and elsewhere will curb global demand for black gold. Crude hit a session low of $135.92 in the biggest one-day drop since Jan. 17, 1991, after the United States began bombing Iraq in the first Gulf War.

Investors received worrying signs Tuesday that inflation is strengthening in the U.S. The Producer Price Index was up a larger than expected 1.8%, and about 9.2% over the past year, as energy prices have soared.

One reason for oil's steep descent is that banks around the world that held crude as an investment seem to have liquidated some of their positions en masse Tuesday, sending the price of the commodity plunging, but probably not for long.

"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, Conn.

With equities virtually in free-fall, investors have moved their money into oil and other commodities as a hedge against inflation and the weak dollar, pushing the black gold up by nearly a half this year, to more than $147 per barrel earlier this month.

Investors who played oil via exchange-traded funds , profited or lost accordingly. The PowerShares DB Crude Oil Double Short ETN (nyse: DTO - news - people ) gained 9.8%, or $2.12, to $23.81, while the PowerShares DB Crude Oil Double Long ETN (nyse: DXO - news - people ) lost 8.0%, or $2.29, to $26.50.

Mike Fitzpatrick, vice president of energy at MF Global, attributed the sell-off to a series of rumors, including the liquidation by a large bank, a cap on commodities, and Iran making a nuclear deal.

According to TradeTheNews.com , an unnamed Iranian official denied rumors in the oil market concerning a possible nuclear deal, and feels the rumors circulated to harm the talks, calling it a "psychological war."

"Tensions on Wall Street are high," Fitzpatrick said, "so prices are vulnerable to these kinds of rumors."

With that in mind it would be foolish to think this kind drop will stick. With the recent surge of oil prices has come increased volatility, and there was nothing in Tuesday's move that presaged the start of a long-term downtrend.

There were other developments on the energy front. The Organization of Petroleum Exporting Countries cut its global demand forecast for 2008 for the fourth time this year, saying that consumption would continue to slow in 2009. Adding downward pressure, 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 at midnight Sunday.