Oil prices held below $40 on Monday as increased supplies in the United States and Opec's pledge to bump up output eased immediate concerns of a supply crunch in world markets.
However, oil dealers said the downside potential for prices would be limited by fears of security risks in the oil-rich Middle East and worries US gasoline stocks would be drained as the summer driving season picks up despite the latest supply increase.
US light crude for July dropped 17 cents, or 0.4 percent, to $38.32 per barrel on Monday, close to 10 percent below a 21-year high of $42.45 traded last week. On Friday's close marked the third straight day of losses.
"More liquidation typically follows after a drop on three consecutive days, and it could be a significant one," a Tokyo-based trader, who declined to be identified, said. "But, the gasoline season has just started, and the market is still concerned about security risks in the Middle East.
The security premiums will still support the market." Prices dropped last week after the Organisation of the Petroleum Exporting Countries (Opec) pledged to raise official output by two million barrels per day (bpd) from July and a further 500,000-bpd from August.
Saudi Arabia, the world's biggest exporter, and fellow Opec member United Arab Emirates said they would pump an extra one million-bpd between them, regardless of Opec policy.
US crude stocks rose in the latest weekly data to their highest since August 2002 and gasoline stocks increased, offering some relief after the world's biggest oil consumer entered its so-called driving season, when Americans hit the roads for vacations.
However, the data showed that gasoline stocks still remain close to four million barrels below a year earlier and stocks are below five-year averages, supporting concerns that supplies could tighten once again.
Reinforcing the worries, the US Energy Secretary Spencer Abraham urged US refineries to run at full capacity to ensure gasoline supplies. "I made it clear to them that we wanted to see no diminishment in refining capacity during this peak summertime period," he said on Friday after a meeting with refiners.
US gasoline prices, which reached a record high retail price last month, have become a key issue ahead of the November presidential vote. The killing of an Irish cameraman and the wounding of his British colleague by gunmen in Saudi Arabia on Sunday once again raised fears over security in the kingdom.
The attack came a week after al Qaeda militants killed 22 people, 19 of them foreigners, in the eastern oil city of Kohlrabi. Oil hit a 21-year high following the attack. With healthy world economic growth leading to higher than expected oil demand, some analysts fear that oil supplies will remain tight for some months to come.
Analysts say the increase in Opec's official supply ceiling to 25.5 million bpd from 23.5 million bpd will make little difference to actual world supplies because Opec is already pumping more than two million bpd above its limit.
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