While their products may be controversial, sinful stocks have been some of the best wealth generators of all time. And one of the best has been the purveyors of tobacco products. The group’s steady cash flows and high dividends have been one of the leading ways for portfolios to grow over the past few decades.
Yet, the recent short term picture has been mired by stalling smoking statistics, regulation and stores dropping products from their shelves.
However, these issues can only be seen as hiccups in the long run. Several pieces of data are beginning to look bright for the tobacco industry. Perhaps more importantly, investors looking for dividends are being given a prime chance to buy.
People Are Still Smoking
While some analysts are making a big deal of pharmacy stock CVS (NYSE:CVS) ending tobacco sales as sign that America is stopping smoking, there is actually a silver lining in some data. True, only 18% of American adults smoke now. That’s versus 42% in 1965. The key is that the rate of decline has bottomed. From 2003 to 2007- the last period of time measured- the rate only dipped 2.3%. That metric is significantly less than the previous time period measured. This doesn’t even take into account rising smoke-less and e-cigarette sales. Both which are seen as major growth elements for the domestic market going forward.
Tobacco use is still alive and well in the United States and it’s absolutely booming overseas.
Nations like India, China and Indonesia just can’t enough cigarettes. In fact, roughly one out of every three cigarettes smoked in the world is consumed in China. Overall, the emerging world is home to four out of every five smokers. And that number is growing quite rapidly.
Smoking still has many of the perceived "cool" qualities in these markets. In several emerging Asian nations, a name-brand pack of smokes is seen as a status symbol. It’s as hip as using an Apple (NASDAQ:AAPL) iPhone. Longer term, rising middle class incomes should help to support tobacco firm's cash flows and the declines in the developed world should be overshadowed by gains in the emerging.
Those cash flows are the hallmarks of various tobacco stocks and they remain pretty robust. Both profit margins and price elasticity at the major tobacco firms are some of the highest out of any sector. Besting the S&P 500 by a significant margin. Given the juicy yields and this pricing power, the sectors recent declines could be seen as buying opportunity for longer termed investors.
A Smoking Portfolio
While the tobacco sectors high dividends aren’t as juicy as they were just a few years ago, the sectors average 5% yield is still beating the pants off of treasury bonds. Meanwhile, the sector offers similar bon-like stability in terms of cash flows. Here’s some of the best picks.
When it comes to tobacco, Altria (NYSE:MO) is still the 800 lb. gorilla in the room as its brands continue to dominate the marketplace. The firm owns Marlboro in the smokable category as well as the Copenhagen and Skoal chewing tobacco brands. Marlboro holds 43% market share, while its major chewing tobacco brands hold nearly 51%. Those brands continue to support MO’s hefty cash flows and its 5.4% dividend. Not to be outdone, chief American rival Reynolds American (NYSE:RAI) –along with its leading Camel brand- yield 5.6%.
For international growth, the English duo of British American Tobacco (NYSE:BTI) and Imperial Tobacco Group (OTCBB:ITYBY) are still the reigning champs of the emerging markets. BTI currently receives around 60% of its earnings from developing markets. That’s helped BTI produce double-digit earnings growth during the last four years. It’s also helped in the dividend department as well. BTI currently yields a healthy 3%. Similarly, Imperial yields 5.25% on the backs of emerging market sales.
Finally, smaller domestic tobacco manufacturer Lorillard (NYSE:LO) maybe an interesting buy. While most investors are familiar with LO’s Newport brand- the leading menthol cigarette- its real long term winner is its Blu electric-cigarette brand. Currently Blu controls 49% of the market in eCigs. That gives Lorillard plenty of earnings growth and first-mover status in the new product segment. It also helps pad LO’s 4.5% dividend yield.
The Bottom Line
While tobacco may be considered a sinful endeavor, cigarette stocks may be just what an income portfolio needs. For investors, the group's stable cash flows, high dividends and growing emerging market demand are the hallmarks of these long term wealth generators. The previous picks- along with Vector Group (NYSE:VGR) –make ideal selections to play the sector.
Disclosure - At the time of writing, the author did not own shares of any company mentioned in this article.