Oil drops on China COVID worries

© Reuters. FILE PHOTO: Crude oil storage tanks are seen at the Kinder Morgan terminal in Sherwood Park, near Edmonton, Alberta, Canada November 14, 2016. REUTERS/Chris Helgren

By Sonali Paul

MELBOURNE (Reuters) - Oil prices fell on Monday in volatile trade, reversing some gains from the previous session as markets braced for new mass COVID testing in China potentially hitting demand, a worry that outweighed ongoing concerns about tight supply.

Brent crude futures fell $1.02, or 1%, to $106.00 at 0605 GMT, after climbing 2.3% on Friday.

U.S. West Texas Intermediate (WTI) crude futures declined by $1.38, or 1.3%, to $103.41, paring a 2% gain from Friday.

Trading was thinned by a public holiday in parts of Southeast Asia, including oil trading hub Singapore.

The market was rattled by news that China had discovered its first case of a highly transmissible Omicron subvariant in Shanghai and that new cases had jumped to 63 in the country's largest city from 52 a day earlier.

"The market's just responding to news flow and China has grabbed the most attention so far," said Commonwealth Bank commodities analyst Vivek Dhar.

Traders were nervous that the discovery of the new subvariant and the highest number of daily new cases in Shanghai since May could lead to another round of mass testing, which would hurt fuel demand, he said.

Both benchmark crude contracts traded lower in early trade on Monday, turned positive, then turned back down again after the latest COVID news from China.

"Net long positions in WTI crude futures are now at their lowest level since March 2020, when demand collapsed amid the initial outbreak of COVID-19. This is despite ongoing signs of tightness," ANZ Research analysts said in a note.

Looking to ease tight supplies, U.S. President Joe Biden will be holding talks this week with Saudi Arabia's leaders to mend ties with the world's largest oil producer following the 2018 murder of Washington Post journalist Jamal Khashoggi.

"Just the idea of repairing that relationship between Saudi Arabia and the U.S. is important. But the market's not expecting him (Biden) to come back with immediate supply relief," Dhar said.

The market remains jittery about plans by Western nations to cap Russian oil prices, with President Vladimir Putin warning further sanctions could lead to "catastrophic" consequences in the global energy market.

Another key factor traders will be watching is maintenance on the Nord Stream 1 pipeline, the biggest single pipeline carrying Russian gas to Germany, due to run from July 11 to 21. Governments, markets and companies are worried the shut-down might be extended due to war in Ukraine.

Failure of the pipeline to come back on as scheduled on July 22 could lead to gas demand destruction in Europe, which would spur an economic slowdown and dent oil demand, said Stephen Innes, managing partner at SPI Asset Management.

Questions also remain about how long more crude will flow from Kazakhstan via the Caspian Pipeline Consortium (CPC). Supply has continued so far on the pipeline, which carries about 1% of global oil, even after it was ordered by a Russian court last week to suspend operations.