McFadden linked up with the Black Cats in October, penning a short-term agreement which is due to run until the end of January.
The 29-year-old was offered terms in an effort to prove his fitness after a frustrating time with injury, but he has struggled for minutes throughout his stay at the Stadium of Light.
O'Neill believes McFadden has benefited from his spell in the North East, but appreciates that the Scotland international may wish to try his luck elsewhere.
The Sunderland boss told the Shields Gazette: "I haven't spoken to James yet about his future.
"I think he has been unlucky in terms of his appearances, but I think he knew that to begin with - that really his favourite positions in the team are areas where I feel we are pretty strongly catered for.
"He will probably be a bit frustrated because he probably feels he is fit now and he's probably looking for that opportunity.
"We probably won't see what he can really do until he starts a game.
"At this moment the players who have been keeping him out have been our really creative players who, though they might have been struggling for form, are key to us and it has been difficult. So we will see where it goes."
O'Neill added: "James and I agreed that if it didn't happen for him here then it was unlikely he would want to hang around.
"But I think that the way things have panned out, he has enjoyed the place and the players."