Oil prices soared on Thursday after an Iranian media report of a pipeline fire in top exporter Saudi Arabia though prices later pared back after CNBC cited a Saudi oil official saying the report was untrue.
Front-month Brent was down by $1.22 to $124.98 a barrel at 0917 GMT, after settling the previous session at highs not seen since April 2011 of $126.20.
Brent topped $128 a barrel in late post-settlement trade on Thursday, reaching levels not seen since July 2008, when the growing economic crisis drove oil to record peaks of more than $147 a barrel.
"The market seems to normalise slowly, very slowly at best," Commerzbank's Carsten Fritsch said. "I don't expect yesterday's price increase to be fully priced out again since there are still concerns about supply disruptions and these concerns will be even greater now."
Markets have been on edge this year due to threats of supply disruptions caused by the West's standoff with Iran over its nuclear program and production losses from South Sudan, Yemen, Syria and the North Sea.
"The market is asymmetric to information at the moment: it reacts strongly to price-supporting news and less so to negative news flow. This report shows just how nervous the market is on any news regarding supply disruptions," Fritsch added.
U.S. crude oil futures were down 72 cents to $108.12 a barrel after settling $1.77 higher at $108.84.
But barring an escalation in the standoff with Iran, analysts said warmer weather in Europe and Asia following the end of winter would weigh on prices in the next few weeks.
"Oil prices have overshot in the short-term, and with warmer temperatures as we move from winter to spring, oil demand could start to fall, starting in March," said Gordon Kwan, head of energy research at Mirae Asset Management in Hong Kong. "Brent could fall back below $120 if Iran doesn't flare up."
IRAN STRUGGLING TO SELL CRUDE
Iran, the world's fifth largest oil producer, has been struggling to sell its crude in the face of tightening U.S. sanctions and a European Union embargo that kicks in on July 1. This has threatened to tighten global crude supplies.
However, U.S. Energy Secretary Steven Chu said global oil producers have enough spare production capacity to make up for a drop in Iranian exports.
Oil prices have also been underpinned this week by positive manufacturing data out of China, easing fears of a sharp drop in demand from the world's second biggest oil consumer, and by a flood of cheap funds from the European Central Bank.
"China's PMI has increased for three consecutive months, suggesting a sustainable recovery in manufacturing activities is now occurring," analysts at ANZ Bank said in a research note.
The probability of a sharp global slowdown has eased due to recent policy measures adopted in the euro zone to tackle its debt crisis, the International Monetary Fund said on Thursday, but it warned risks to world growth remain "squarely to the downside".
In the short term, Brent will retest resistance at $126.53 per barrel, while U.S. crude will test resistance at $110.95 per barrel, according to Reuters market analyst Wang Tao
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