Oil oversupply worsens, why ASX oil shares could plunge further

Brent crude and WTI oil futures dropped below US$30 a barrel overnight after the US Energy Information Administration reported that US diesel and gasoline reserves are building at near record-breaking rates.

The deliberate oversupply of energy markets by OPEC means the limits to oil, gasoline, and diesel storage are now being reached as oil tankers around the world reportedly anchor offshore unable to divest cargoes of the Black Gold. Elsewhere, US crude and global oil inventories are also reportedly at or near record highs.

As crude oil, diesel, and gasoline storage limits are reached oil prices can be expected to keep falling as the oversupply of the market creates a race to the bottom unlikely to finish until news emerges of decisive action being taken to reverse the oversupply situation via OPEC production cuts.

This simple paradigm spells bad news for investors in price-taking energy operators like Woodside Petroleum Limited (ASX: WPL), Santos Ltd (ASX: STO), Origin Energy Ltd (ASX: ORG) and Senex Energy Ltd (ASX: SXY).

The worsening of the oversupply problem should also serve as a warning to investors tempted to go bargain hunting in the sector on the prospect of a short-term oil price rebound.

This looks wishful thinking as energy prices will keep falling if, as seems likely, more evidence emerges of stockpiles increasing and storage capacity decreasing due to oversupply.

Aside from OPEC production cuts, the only other way prices look likely to rebound is via mass bankruptcies or shutdowns across higher production cost suppliers in North America, Western Europe and Australia.

This would potentially resolve the oversupply problem, but likely have horrendous consequences for oil investors and global equity markets more generally, amidst heavy job losses, flat wage growth, deflation, and economic contraction as a result of consumers being unable to keep up with the cost of global economic output.

Western oil companies are already slashing capex, laying off workers, raising capital, and looking at mergers and acquisitions to avoid the worst case scenario of debt-driven insolvency.

Royal Dutch Shell and BG Group are set to merge in an $80 billion deal in the year ahead, while all of the large-cap Australian producers like Woodside, Santos and Oil Search Limited (ASX: OSH) are potential merger or acquisition prospects.

The macro-economic implications of the oil prices falls, alongside China’s decelerating growth mean equity markets are likely to stay under downward pressure until a decisive reversal of the current oil bear market.

Indeed the bearish outlook for energy shares is a topic I wrote about recently and another reason to FORGET OIL SHARES.

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Motley Fool contributor Tom Richardson has no position in any stocks mentioned.

You can find Tom on Twitter @tommyr345

Unless otherwise noted, the author does not have a position in any stocks mentioned by the author in the comments below. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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