Are Tobacco Stocks Still A Good Investment?

Tobacco Stocks

One category of investments that are popular with investors and have done well over the years are the Sin Stocks. These are investments in industries and sectors that are considered unethical or immoral, which include companies in alcohol, tobacco, sex-related, weapons manufacturing and military industries. This post will take a close look at the tobacco industry and presents some of the risk/reward considerations to keep in mind and evaluate: are tobacco stocks still a good investment?

I personally have no qualms about investing in the sin stocks for the sake of ethics, as any company that is worth its salt is probably stepping on other’s toes. The business world is brutal – and needs to be, in order to survive and be successful. Jason at Dividend Mantra had a post touching on this subject recently – entitled How Ethical Can an Investor Be? I agree with his points where he points to the questionable behavior of smartphone sweatshops and other industries. Same goes for the industries that most people consider benign, such as say, the food industry – if anyone takes the time to look into how animals are raised in our current conventional animal farming, it is truly horrifying. But that is a story for another post. Let’s jump into the subject of tobacco stocks.

Past Returns

Credit Suisse recently published a brilliant investment report entitled Credit Suisse Global Investment Returns Yearbook 2015. If you haven’t read it, I invite you to do so – it is worth your time. In that report, they evalate the performance of industries in USA and find that the tobacco industry had the best returns from 1900 to 2014. $1 invested in 1900 would have turned to $6.2M in 2014, representing an annualized return of 14.6%, which was 5000 times as much more profitable than the worst performer – Shipbuilding and Shipping.

Returns 100Yrs

Performance of US industries 1900-2014 (Source: Credit Suisse)

Those numbers should make any investor salivate. But it is also important to keep the historical context in mind – cigarettes were ‘physician tested and recommended’ for a better part of the century. Here is a detailed account of the tobacco industry’s timeline over the 20th century. Even though there was evidence of linking lung cancer to tobacco as early as 1912, it took a better part of the century for the medical community to officially acknowledge it and finally the tobacco industry caved accepting that fact that their product might be the cause.

The Giants

The tobacco industry consists of a few major players. The largest players are Altria Group (MO), Philip Morris International (PM), British American Tobacco (BTI), Imperial Tobacco (LON: IMT), Japan Tobacco (TYO: 2914), China Tobacco (private), Reynolds American (RAI), and Lorillard Inc (LO). The industry is seeing some consolidation and spinoffs of late. Altria (MO) spun off Philip Morris International (PM) in 2008 for its international operations, which has already made PM the largest (public) tobacco company in the world. In 2014, Reynolds American acquired Lorillard in a $27.4B deal. While the shareholders have agreed to the terms, the FTC is still weighing the settlement terms.

Company

Ticker Market Cap Yield

Philip Morris

PM $119B 5.14%

Altria Group

MO $100B 4%

British American Tobacco

BTI $98B 5.8%

Reynolds American

RAI $39B 3.66%

Lorillard Inc

LO $24B 3.78%

Imperial Tobacco

LON:IMT $30B 4%

Japan Tobacco

TYO:2914  ¥7.7T 3.08%

Are Tobacco Stocks Still A Good Investment?

Current Trends – Volume

The current statistics indicate that the number of smokers have been declining worldwide. This report from WHO is one of the most extensive reports which confirms that claim of declining users. There have been other reports which confirm this trend, but in order to be balanced, I want to present one conflicting report that I came across when discussing about the trends. This report from The Journal of the American Media Association (JAMA) presents that the number of smokers is actually rising. But looking at the annual reports from Philip Morris (PM), Altria (MO), Reynolds American (RAI)Lorillard (LO) and British American Tobacco (BTI) all suggest that the trend is quite obvious – each of those companies is seeing declining volumes year over year. One wildcard here is the Chinese market – which has over 350M smokers and most of the market belongs to the state-run company China Tobacco (CNTC), so the market is off limits to most investors. The one interesting take here is that there exists a strategic partnership between PM and CNTC, which allows them to use the Marlboro name.

Current Trends – Prices

The cigarette companies have been more profitable than ever before. This has been possible, even taking the falling volumes into account, due to rising prices. The aforementioned and linked annual reports from the cigarette companies will show that the price per pack has been rising over the years. This report from CDC also confirms that the volume of sales has been declining and the price per pack of cigarettes rising over the years.

Current Trends – Legislation

Most of the world recognizes the negative effects of cigarettes and has taken steps to combat the usage. Western governments have banned cigarette advertising for a while now and legislated plain packaging or severe warning messages and/or grotesque pictures on packages. In addition, legislation has been introduced in a lot of cities/states to ban smoking in public places. Even emerging markets such as Russia and China have recently announced initiatives to educate the masses about the dangers of smoking and are in the process of introducing advertising bans. This makes a lot of sense for governments as it puts unwanted burden on the tax-sponsored healthcare systems. However, the presence of economic and trading partnership agreements, which gives corporations power way beyond a country’s own legal system has allowed the tobacco firms to sue governments and muscle their way into the country. This video from Last Week Tonight captured the essence of the power that a tobacco corporation has over a country. More recently, Philip Morris has announced that it is suing Uruguay over its health warning legislation. In the future, I believe agreements such as Trans-Pacific Partnership (TPP) and Tranatlantic Trade and Investment Partnership (TTIP) will give corporations more power allowing them to take countries to court and sue them.

My Take

I am skeptical about investing in the tobacco industry. As the masses become more aware and health conscious, the usage has steadily decreased. I think there is a case for investing in tobacco and should not be completely discounted. A small portfolio exposure would serve well for most dividend investors. Some companies such as PM have the extra dimension of currency pressure – which need to be considered by investors (the company has operations only outside US, but reports in US$…and with the strong US$, that puts a damper on the earnings). Considering the headwinds faced by the tobacco companies worldwide, it will not be surprising to see more M&A activity in the future. However, it is important for potential investors to keep in mind that the industry faces declining volumes, legislative actions and other roadblocks.

What are your thoughts on the industry? Do you agree with my take? Share your thoughts below.

Full Disclosure: None. My full list of holdings is available here.

21 thoughts on “Are Tobacco Stocks Still A Good Investment?

  1. Thanks for the post R2R. Investing in Tobacco stocks is such a sensitive subject. People will do what they wanna do when they wanna do it. It’s their life. For myself, I don’t mind investing in it. I will buy more PM stock but the USD is stronger that it’s stopping me. Tobacco and Alcohol stocks are money makers. They’re not gonna go away anytime soon. My dad’s been smoking for 30 plus years and he smokes 1.5 to 2 packs a day. His habit costs him about 15 bucks a day. That’s heavy. My brother in law recently had lung cancer at 44 and died from smoking… So you know. Life’s funny.
    Take care and a pleasure R2R.

    • Sorry to hear about that, DH.
      It is a touchy subject, but they are cash cows. I have not invested in them until now, but I keep revisiting and debating if I should. The strong US dollar sure is a sore point, but that is one of the main reasons PM is heading lower. Once the USD reaches a bottom, that stock should start bouncing back up again. However, that is years away. So, an investment in MO might be a better idea over the medium term.

      Thanks for stopping by and sharing your thoughts. I appreciate the input.
      R2R

  2. R2R,

    Thanks for the mention!

    I look at tobacco investments with a time horizon of about 10 years or so (same as Big Oil). And that’s quite long-term for most people. Where cigarettes/tobacco will be beyond that is really anyone’s guess, but I don’t see anything showing that price increases can’t keep up with the declining volumes for now.

    You didn’t touch at all on RRPs or e-cigs, which could totally change the game. I anticipate the major players continuing to develop their own platforms while simultaneously buying out the bigger players with large market shares. I can see a future world where traditional tobacco is no longer smoked at all, but people still take in nicotine – and the major players will still be providing that.

    We’ll see how it goes!

    Best regards.

    • Some great points there, DM.
      I should have mentioned the e-cigs aspect of things. Thats a good point that I missed out on, in the article. I think you are right in the evaluation that with a horizon of 10 years or so, tobacco stocks are a good investment. I have been thinking a lot about it lately and decided to write this article – and have come to the conclusion that its time to start with a position in one of the tobacco stocks. PM is probably the one facing most currency risk right now and appears very attractive, with good chances of averaging down over the next few years. I will be adding it to my watchlist.

      Thanks for stopping by and the feedback
      R2R

  3. Tobacco has always been a critical subject for some, me personally I don’t mind investing in ‘sin stocks’ as long as its legal. I am slowly accumulating PM but like you said, I am proceeding with caution as the company faces a currency head wind. I wouldn’t bet all my money with one investment and it goes with PM too. Everything comes with risk, right now smokers are declining but tobacco companies are still a huge cash flow machines. Thanks for the great post R2R!

    • Absolutely, FFF. Never put all eggs in one basket. I think you are approaching this in the right way – slowly accumulating while its down. I am considering doing the same. Its one of the cons staples subsector that is available at decent valuation.

      cheers
      R2R

  4. Very interesting post indeed. While I have not invested in any tobacco stocks, I cannot really claim any moral high ground for that decision without sounding hypocritical. People can and should make their own decisions to do as they legally like to, however I just do not care for cigarette smoke at all. So it would make little sense for me to be invested in a company that produces something I don’t like. While the same could perhaps be said about some other companies I am invested in, none are so blatantly obvious to me. Thanks for the thought provoking post.

    – HMB

    • HMB,
      Thanks for sharing your thoughts. I think we can all agree that cigarette smoke is annoying – Im not sure how smokers feel, I bet even they find it annoying when its blown in their face by someone else.

      Best wishes
      R2R

  5. Interesting post. Like you, I’d have no problems investing in tobacco companies. I don’t smoke, and usually avoid places with lots of smokers, so it wouldn’t be one of those cases where I invest in what I use. But at the end of the day, people make their own choices to smoke, and if these companies are profitable selling cigarettes, why not take part in the profits?

    • Hey Brian,
      Exactly my train of thought. My goal of investing is simply to make money – I dont let some personal reasons/beliefs allow me to cloud my judgement. There are plenty of other ways to discourage smokers if you want ppl around you to start smoking.

      Best wishes
      R2R

  6. Tobacco is a touchy subject for me…. while I think investing in sin stocks are great to invest, from personal reasons I cannot justify investing in these stocks. I guess this is the same thing for alcohol type of stocks too.

  7. Very interesting post R2R, I’ve been waiting for this since your comment on my recent purchase of PM. 🙂 Although I agree that people becoming more health conscious will have an impact in tobacco stock overall. I think that as long as companies are still able to raise prices to offset the loss of current smokers and/or continue to stay with the trends such as e-cigs and the like, big players such as PM, MO & BTI can still be good long term investments.

    As for ethics, I know that is a sensitive subject with tobacco stocks but the same could be said with alcohol stocks…both can be equally addicting.

    Thanks for sharing your research and thoughts on the matter. Having viewpoints from all angles makes us better, more informed, investors. AFFJ

    • Glad you found the post interesting, AFFJ.
      Im not sure how much of a burden smokers think about the costs, but I gather that they cant keep rising without check. If they do, I imagine smokers would switch to cheaper brands and/or the black market for their tobacco needs. Anyway…I think for now, PM provides a good opportunity to build solid positions.
      Check out this article I found last night…had some interesting points: http://seekingalpha.com/article/3066946-philip-morris-internationals-path-out-of-dividend-trouble

      Thanks for the feedback…glad you liked it and as you said, always good to have multiple viewpoints to hash out the risks involved.
      R2R

  8. R2R, Nice post. Investing in tobacco stocks is a touchy subject, but personally I don’t mind investing in them. I have positions in MO and PM. I recently added PM as well at around 80, but the stock has been dead money for a while now due to increasing USD. As you mentioned, the sector itself is a declining one, but it is definitely a long term investment. My overall exposure in these stocks (MO and PM) is about 7-8% of my portfolio and I wouldn’t want to increase it beyond these ranges.

    • I think thats a decent sized exposure, DGJ. I would be comfortable with something like that as well. The consumer staples sector sure does crank out some reliable dividends quarter after quarter – and the tobacco stocks are right up there. Thanks for sharing your point of view and the feedback.

      cheers
      R2R

    • Purely speculation 🙂
      The headwinds facing the industry will probably result in just a handful of players left – now that RAI and LO are merging, I expect others to acquire the smaller players in the field in order to grow as growing organically might be harder as the market becomes difficult for them.

      R2R

  9. As far as ethics go, the sector I avoid is “defense”. A person can choose not to smoke. They can’t choose to not have a missile launched at them from an aircraft carrier.

    I’m not attacking anyone’s investment choices, just explaining my own.

    And I’m optimistic on tobacco. I see them the same way I see energy companies. Just as the energy companies will adapt to the shift away from oil and gas and towards wind and solar, tobacco companies will shift away from cigs and towards e-cigs. And when the last traditional cigarette is gone and people in Europe are smoking e-cigs, you can bet they whose e-cigs will be Marlboro brand e-cigs sold by PM.

    Not that I’m about to load up on a tobacco-only portfolio, but I still think tobacco will have a place in any good DGI portfolio for the coming decades.

    Sincerely,
    ARB–Angry Retail Banker

    • Those are some great points, ARB. I havent invested in the defense companies either, but its not due to the ethical reasons….I just couldnt find good value there. I need to revisit and look at those companies again.

      The e-cigs definitely are on the rise, I hear. Its something that we will have to see if its more tolerated across teh world and provides the tobacco industry with a growth trajectory. Im sure companies like PM will be at the forefront of that, if it becomes wildly popular.

      Thanks for sharing your thoughts.
      R2R

Leave a Reply

Your email address will not be published. Required fields are marked *