Bill Smith, a Delaware fuel trader, calls it "the most stupid law ever on the books" - yet for a number of shipping stocks, it means essentially built-in share-price gains.
This law adds about $0.15 to the price of every gallon of gas. And it's so obscure that the vast majority of people have no idea it exists.
It's the maddening reason why it costs three times as much to ship a barrel of oil from Houston to New York as it does to ship the same barrel from Saudi Arabia on the other side of the world.
It's called the Jones Act and it's nothing less than a sweetheart deal for the handful of U.S. energy companies whose profits are practically "guaranteed" by law.
It's also one of the best "hidden" investment opportunities you'll ever come across...
Investing in a "Guaranteed" Industry
The Merchant Marine Act of 1920, known as the Jones Act for its sponsor, Senator Wesley Jones, was created to protect and strengthen the then-fledgling U.S. merchant marine industry. It specified that all goods shipped between two U.S. ports must be sent on ships owned by a U.S. company, crewed by U.S. citizens, and built in a U.S. shipyard.
Those vessels include all of the ships and barges that sail the open ocean along the coast and those that use inland waterways, such as the Mississippi and Hudson rivers.
According to the U.S. Energy Information Administration, America's domestic maritime industry moves tens of millions of barrels of crude oil and petroleum products throughout the United States, all of it using Jones Act-approved vessels. For the companies that build, maintain, and operate Jones Act vessels, the act virtually guarantees all the business they can handle.
According to the Congressional Research Service, a non-partisan agency, the 11 ships and 86 barges that carry petroleum products under the Jones Act are booked 90% to 95% of the time, which is essentially maximum utilization. What's more, the few U.S. shipyards capable of building Jones Act oil-hauling vessels have a backlog of orders through the end of 2016, and some through the end of 2017.
And all of this is at costs that are far above the industry average.
The cost to build a Jones Act vessel is four times the price of a similar ship built in the world's leading shipbuilding countries, such as Korea and China (which build 90% of the world's ships), according to the CRS and the U.S. Maritime Administration (MARAD). As for repairs and maintenance, the cost is typically 70% more for Jones Act vessels.
It also costs significantly more to operate a Jones Act vessel. A recent MARAD study showed that the cost to operate a Jones Act vessel with a U.S. crew was more than $22,000 a day, or 266% higher than the $6,000 a day it costs to operate a foreign oil tanker with a foreign crew.
Companies Can Charge What the Market Will Bear
Skyrocketing demand for Jones Act ships, coupled with customers who can just pass along the cost of shipping to consumers, means shippers can set whatever price they want.
The surge in crude oil from major U.S. basins, such as the Bakken and Eagle Ford, has far outstripped the ability of the industry to build and operate more ships. According to Poten & Partners, a New York-based maritime consulting firm, leasing costs for Jones Act vessels have skyrocketed by 87% in the last two years.
Today, an energy company can lease a supertanker to transport crude oil internationally for $25,000 per day. To bring that same crude oil from a distribution center in one U.S. port to a refinery in another costs four times that... $100,000 per day.
And, because these are small ships and barges that carry anywhere from 60% to 90% less oil than the largest supertankers, the transport cost per barrel is three to four times what an international shipper would charge. In fact, shipping a barrel of crude from Saudi Arabia to the East Coast of the United States costs less than $1.90. Shipping that same barrel from a port in Texas would cost $6.
Shipping companies and shipbuilders get more than high fees. Under a federal program known as Title XI, government-backed loan guarantees cover 87.5% of the cost of construction. Shipyards can receive grants that offset up to 75% of the costs of improvements to their facilities.
Owners of large ocean-going Jones Act ships can also receive subsidies of $8,500 per day from the Maritime Security Program. In return, they have to promise that they'll make their ships available should the Department of Defense need them to carry fuel for military efforts.
They get substantial tax breaks, too.
For U.S. consumers, the Jones Act is a bad deal.
"The Jones Act is nothing more than a giant tax on the U.S. consumer," says Fadel Gheit, an energy analyst at Oppenheimer.
"Revoking the Jones Act would reduce gasoline prices by as much as $0.15 a gallon by increasing the supply of ships able to shuttle the fuel between U.S. ports."
But while the law may be bad for consumers, it creates tremendous opportunities for investors.
In fact, it's easy to see why momentum is building for Jones Act-related shipping stocks.
Three Shipping Stocks to Watch
According to Financial Times, earnings have doubled in the industry for Jones Act tankers. U.S. midstream giant Kinder Morgan Inc. (NYSE: KMI), noting the trend, recently agreed to spend nearly $1 billion to get into the oil tanker business by buying two shipowners.
Shipbuilders such as the General Dynamics Corp. (NYSE: GD) NASSCO Shipyard in San Diego and Aker Philadelphia Shipyard ASA have "guaranteed" business for the next two to three years.
Here are three stocks to watch:
Aker Philadelphia Shipyard ASA (OTCMKTS: AKRRF), whose stock has skyrocketed 74.51% in the past year, recently announced it is significantly adding to its construction capabilities by forming a new shipbuilder, Philly Tankers AS, with a few other partners. Aker will own 54% of the new company, which already has contracts for four new tankers to be delivered in 2016 and 2017.
Overseas Shipholding Group Inc. (OTCMKTS: OSGIQ) recently filed for bankruptcy protection, primarily due to a tax dispute with the IRS. But as the country's largest Jones Act fleet (22 ships of its 107-ship fleet), with a stock that soared 226.19% in the past year before trading was halted in mid-August, this one is worth watching once trading resumes and the strengthening demand for its ships begins to move the stock.
Seacor Holdings Inc. (NYSE: CKH), a Florida-based provider of marine transportation equipment and logistics services to the energy and agriculture industries, saw its net income jump 83%, from $11.5 million to $21.1 million, during the most recent quarter. A recent agreement with venture capitalist Avista Capital Partners will give the company $150 million for expansion and ship construction.
Congress has repeatedly beaten back every attempt to repeal or weaken the Jones Act, which means opportunities should continue for Jones Act companies, as well as their investors, for a long time.
More on shipping stocks: U.S. crude oil exports are ramping up thanks to a thawing of the export ban, and these shipping company stocks will get a boost as a result...
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