Oil prices are now in a bear market after dropping by over 20% from their recent June highs. Currently West Texas Crude Oil is fetching US$40.12 per barrel and the price of Brent Crude is down to US$42.14 per barrel.
The reason for the decline in oil prices is largely down to fears of a sustained supply glut according to The Wall Street Journal. The end of unplanned supply disruptions in Nigeria, Libya, and Canada has been a major concern for oil bulls, but perhaps the monthly survey conducted by Reuters has worried them most.
Its survey found that supply from the Organization of the Petroleum Exporting Countries (OPEC) rose to 33.41 million barrels per day (bpd) in July from a revised 33.31 million bpd in June. This has been put down to strong output from Iraq and Nigeria, together with key OPEC exporter Saudi Arabia continuing to keep its output at near record levels.
If the survey is accurate it will mean OPEC's oil output will have reached a record high in July, which will not be what Australia's oil producers want to hear.
Profits of companies such as Beach Energy Ltd (ASX: BPT), Santos Ltd (ASX: STO), Woodside Petroleum Limited (ASX: WPL), and Origin Energy Limited (ASX: ORG) could come under pressure if oil prices stays at these low levels for a sustained period of time.
With Saudi Arabia focusing on maintaining market share rather than cutting its supply to boost prices, I don't personally see a near-term end in sight for the supply glut. For this reason I wouldn't be surprised to see oil prices drop a touch more, bringing the share price of Australian oil producers down with it.
Foolish takeaway
I believe the prudent thing to do at this point is to avoid the oil producers for the time being and focus on other areas of the market. The supply glut isn't going away any time soon in my opinion, which will put a lot of pressure on oil prices and could see them drop further from here.
