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UPDATE 6-Oil rises as U.S. crude stocks fall, market awaits U.S. Fed rate cut

Stephanie Kelly

* U.S. crude stocks drop by 8.5 mln bbls -EIA

* Federal Reserve expected to cut interest rates

* Libya's Sharara oilfield shut, NOC declares force majeure

* U.S.-China trade talks in Shanghai; expectations low (New throughout, updates prices, market activity, comments; new byline, changes dateline, previous LONDON)

NEW YORK, July 31 (Reuters) - Oil prices rose for a fifth day on Wednesday, supported by a larger-than-expected drop in U.S. inventories and investor expectations that the U.S. Federal Reserve will lower borrowing costs for the first time in more than a decade.

Brent crude futures rose 36 cents to $65.08 a barrel by 11:03 a.m. EDT (1503 GMT), while U.S. West Texas Intermediate (WTI) crude futures rose 19 cents to $58.24 a barrel.

U.S. crude inventories fell by 8.5 million barrels in the week ended July 26, the Energy Information Administration said on Wednesday. Analysts expected a decrease of 2.6 million barrels.

"The report was bullish due to the large crude oil inventory drawdown and strong demand from refiners and drivers," said John Kilduff, partner at Again Capital Management. "Refiners are running at very high rates, and gasoline demand remains quite high, as the summer driving season persists."

Most investors expect the Fed to cut interest rates on Wednesday. The decision is due at 2 p.m. EDT (1800 GMT) at the end of a two-day policy meeting.

A rate cut would be "a double boon for oil prices. On one hand it should encourage U.S. oil demand and on the other it will apply downward pressure on the dollar," PVM Oil Associates analyst Stephen Brennock said.

Libya's Sharara oilfield, the country's largest, shut after a problem on Tuesday with a valve on the pipeline linking it to the Zawiya oil terminal. State-owned National Oil Corp (NOC) declared force majeure on loadings of the crude grade on Wednesday.

Saudi Arabia's oil production fell to 9.6 million barrels per day in July and will stay below 10 million bpd in the coming months, a Saudi oil source told Reuters.

Backwardation in Brent <LCOc1-LCOc2>, a market structure in which later-dated contracts trade at lower levels than near-term contracts, has to a large extent evaporated, signaling a well-supplied market despite OPEC-led output cuts and U.S. sanctions on oil producers Iran and Venezuela.

In Shanghai, U.S.-China trade talks are taking place in an effort to end a year-long trade war. Negotiators wrapped up a brief round of trade talks on Wednesday that both sides described as "constructive."

A Reuters monthly poll showed oil prices are expected to be range-bound near current levels this year as slowing economic growth and a protracted trade dispute curb demand.

(Additional reporting by Bozorgmehr Sharafedin in London, Aaron Sheldrick, Yuka Obayashi and Yuri Harada in Tokyo Editing by Dale Hudson and David Gregorio)