A category of investment that can be favored by some investors and which has performed satisfactorily in the past are the Sin Stocks; investments in industries and niches that may be considered unethical or immoral. They include companies involved in the supply of alcohol, tobacco, weapons manufacture, military industries, and sex-related products and services.
Here, we examine the tobacco industry from a financial perspective. What are the risk/reward considerations? Are tobacco stocks a worthwhile investment from a financial perspective in this day and age, leaving aside the significant moral questions?
Historical Investment Returns
Tobacco has had the best returns among American industries over the past 100+ years. Just $1 invested in 1900 would have grown to $6.2m by 2014, which is an annualized return of 14.6% (Credit Suisse Global Investment Returns Yearbook 2015).
Such numbers should get the attention of any hard-nosed investor. It is, however, important to be cognisant of context and avoid illusion, which, itself, allowed smoking to become so prevalent in the first place. Cigarettes were considered safe for a better part of last century. This is despite (suppressed) evidence dating as far back as 1912 which linked smoking and lung cancer.
Consumption Trends
Smoking rates are declining worldwide, and most noticeably in the developing countries. it is estimates that the % of adults who smoke in the US shrank from 42.4% in 1965 to 19% in 2011 (Centers for Disease Control and Prevention).
Further declines seem certain given legislative and cultural developments. Cigarette advertising has been banned in many developed countries. Plain packaging (or severe warning messages) have also been legislated. Many local governments have also banned smoking in public places.
Improved knowledge about the health risks from tobacco smoke actually mitigates against the risk of compensation payouts, such as sickness benefits and support for children affected by the death of a parent. Companies cannot be reasonably sued for misleading advertising or a lack of health hazard warnings if they are complying with stringent regulations.
Despite falling volumes, cigarette companies are actually more profitable in dollar terms than before. Price rises have more than offset lower volumes, though the ability of this pattern to continue is questionable.
Future for Big Tobacco
Tobacco is not like gold or diamonds. Consumers have their price points where they will stop smoking rather than pay exorbitant amounts. For this reason, profit declines due to falling consumption appear inevitable, with the short-term exception of developing markets overseas.
Smoking will eventually become a pastime for the rich and highly addicted. School science education is reinforcing community knowledge about the health risks from pollutants, including tobacco, and teaching potential new smokers of the dangers of substance addiction. Investment in tobacco seems risky without very high P/E ratios. Adding to the negatives are ongoing risks from regulatory change and health litigation.