Traders scale back on oil bets as Fed decision nears

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Oil prices slipped on Tuesday as traders bet that the fund-fuelled rapid run-up in U.S. prices had gone too far, while some held tight ahead of a Federal Reserve meeting.

Market players are holding out for clues from the Fed's two-day meeting on the fate of the U.S. stimulus program that has spurred demand in the world's top oil consumer. The Fed is due to issue a statement on Wednesday.

Brent futures slipped 60 cents to dip below $107 a barrel, after slipping 0.8 percent last week. U.S. crude shed $1.47 to settle at $103.08. The North Sea benchmark's premium over its U.S. counterpart widened to nearly $4.

U.S. inventory data will also offer an insight on its oil demand. U.S. commercial crude oil stockpiles likely fell last week for the fifth straight week, a Reuters poll of six analysts showed on Monday.

Oil futures' fall on Tuesday comes after a rally in both benchmarks to multi-month highs above $109 in July, which attracted bullish speculators and large hedge funds into the market. U.S. crude in particular had rallied to a 16-month high as infrastructure developments allowed oil in landlocked Cushing, Oklahoma, to flow to the U.S. coasts.

"The market was really unnerved by the report Friday showing massive length," Andy Lebow, vice president at Jefferies Bache said, referring to the Commodities Futures Trading Commission's Commitment of Traders Friday report that shows outstanding contracts on different commodities.

"Right now the market is just liquidating. Brent is suffering from the same problem: tremendous growth in speculative length in the last few weeks. As the market moves lower, there's going to be more pressure on it as well."

Supply curtailed

The liquidation carries with it "the potential that the decline in WTI pulls the rest of the petroleum complex down on top of it," Tim Evans, an energy specialist at Citi Futures Perspective, wrote in a research note.

Investors fretted that the manufacturing surveys later this week might highlight weakness in China.

Activity in China's manufacturing sector may have contracted in July for the first time in 10 months, a Reuters poll showed, signaling a protracted slowdown in the world's second-largest economy as demand at home and abroad sags.

"Chinese data along with actions by the government are clearly pointing to a slowing of the main economic and oil demand growth engine of the world," said Dominick Chirichella of Energy Management Institute.