Oil fell to below $71 per barrel on Tuesday, paring three days of gains, as worries about a rise in U.S. crude inventories offset optimism from positive U.S. and Chinese manufacturing data.
The dollar's fall on Monday to its lowest level this year helped push up U.S. crude oil futures by 3 percent on top of a rally of almost 10 percent last week.
Dealers said Tuesday's fall looked more like a pause for breath than a serious reversal of the market and suggested further rises were likely.
For the time being, it does not make much sense to go short in energy...as the upside momentum is very strong, broker MF Global said in its daily report.
Crude oil markets have yet to reach severely overbought levels, it said, adding, Investors seem to be betting on a V-shaped recovery.
U.S. light, sweet crude fell 58 cents at $71.00 a barrel by 3:34 a.m. EDT, after having fallen earlier by as much as $1.06. ICE Brent crude fell 35 cents to $73.20 a barrel.
MG Global said it had raised its upside target for North Sea Brent crude futures to $81 per barrel.
Cautious statements from UBS
But a strong rally in equities, which pushed global stocks to a nine-month high on Monday, and increasing signs of a global economic recovery appeared to be limiting the downside for the oil market as investors' appetite for risk rises.
On Tuesday, Asian stocks climbed to an 11-month high expectations of a recovery in the United States.
Monday's gains took oil prices, still less than half the record high of over $147 hit in July 2008, within sight of the year's high of $73.38 set in June.
Oil will struggle to break $75 but there might be a support for the market at current levels because of the strong PMIs, said Victor Say at Informa Global Markets.
The U.S. manufacturing sector continued to shrink in July, but at a slower pace than in June and more slowly than expected, according to Institute for Supply Management data, while Chinese PMI data showed a fourth straight month of growth.
The dollar index <.DXY> against six other major currencies was around 77.730, little changed from late U.S. trade on Monday when the index fell as far as 77.451, its lowest since September 29.
The market is looking to take a cue from weekly U.S. crude inventory data due later from the American Petroleum Institute and on Wednesday from the Energy Information Administration.
According to a preliminary Reuters poll, analysts expected a 1 million barrel rise in crude stocks last week, a 1.1 million barrel rise in distillate stocks and a 1.6 million barrel draw in gasoline stocks.
Output by 11 members of OPEC rose slightly in July, lowering its compliance rate to 71 percent of its agreed supply curbs compared with 72 percent in June, a Reuters survey showed.
(Additional reporting by Sambit Mohanty in Singapore; editing by William Hardy)