{"id":33091,"date":"2012-10-23T09:59:08","date_gmt":"2012-10-23T13:59:08","guid":{"rendered":"http:\/\/countingpips.com\/forex-news\/2012\/10\/its-time-to-stop-bogarting-cigarette-stocks\/"},"modified":"2012-10-23T09:59:08","modified_gmt":"2012-10-23T13:59:08","slug":"its-time-to-stop-bogarting-cigarette-stocks","status":"publish","type":"post","link":"https:\/\/www.investmacro.com\/forex-news\/2012\/10\/23\/its-time-to-stop-bogarting-cigarette-stocks\/","title":{"rendered":"It\u2019s Time to Stop Bogarting Cigarette Stocks"},"content":{"rendered":"

By The Sizemore Letter<\/a><\/p>\n

\"\"<\/a>You know you have reached a certain level of immortality when your name becomes a verb, and I can think of no better example than the American actor Humphrey Bogart, perhaps best known for his role in that all-time classic Casablanca.<\/em><\/p>\n

\u201cTo Bogart\u201d a cigarette is to leave it dangling sloppily in your mouth, even when speaking, rather than engaging in proper smoking etiquette by giving it a few puffs at a time and then removing it.\u00a0 Over the years, the word has also come to mean to greedily hog something.<\/p>\n

Today, I would say both meanings of the word are accurate descriptions of investors in tobacco stocks.\u00a0\u00a0 Investors \u00a0are \u201cBogarting\u201d cigarette stocks by continuing to hold them at current prices.<\/p>\n

First, a little disclosure is needed.\u00a0 I have been a major fan of sin stocks in general and cigarette stocks in particular for years (see \u201cNot All Sin Stocks are Created Equal<\/a>\u201d<\/strong> and \u201cDelightfully Sinful Dividend Stocks<\/a>\u201d<\/strong> as recent examples.<\/p>\n

But my enthusiasm for Big Tobacco rested on two big assumptions:<\/p>\n

    \n
  1. They are largely despised by both individual and institutional investors due to their pariah status as politically incorrect merchants of death\u2014making them perpetual contrarian value investments.<\/li>\n
  2. They pay high and growing dividends that are significantly better than what can be found elsewhere among mainstream large-cap stocks.<\/li>\n<\/ol>\n

    Unfortunately, I cannot credibly say that either of these conditions still hold.\u00a0 Cigarette stocks have become downright trendy of late as investors have taken to chasing yield in a low-interest-rate world.<\/p>\n

    Let\u2019s take a look at Philip Morris International (NYSE:$<\/span>PM<\/a>)<\/strong>, the seller of the iconic Marlboro brand among many others.<\/p>\n

    For years Philip Morris appeared to be the perfect stock.\u00a0 It had access to emerging market growth (roughly half its sales) while benefitting from an American listing and top-notch management. \u00a0\u00a0It also paid a dividend far higher than the norm among stable U.S. blue-chip stocks, and that dividend was growing every year.<\/p>\n

    There\u2019s one little problem here:\u00a0 Philip Morris International is still a tobacco company<\/strong><\/em>.<\/strong>\u00a0 Its sales may be enjoying a multi-year boost as emerging market smokers trade up from cheaper local competitors to premium Western cigarettes, but worldwide demand for their products is shrinking, and fast.<\/p>\n

    In its most recent quarterly release<\/a>, Philip Morris International saw its profits fall 6% on lower volume sales.<\/p>\n

    And perhaps worse, the regulatory noose continues to be tightened.\u00a0 Consider Australia\u2019s new plain packaging law.\u00a0 All cigarette boxes for all brands now look identical in Australia.\u00a0 Cigarettes must now be sold in logo-free boxes featuring nothing more than graphic pictures of people dying of smoke-related illness.\u00a0 It\u2019s hard to enjoy taking a drag on that cigarette when you\u2019re looking at a picture of a gangrenous foot on the package.<\/p>\n

    This does not at all bode well for premium brands like Marlboro.\u00a0 Given that tobacco companies are all but prohibited from advertising, how can a premium brand differentiate itself from the cheaper competition when it sells its cigarettes in an identical box?<\/p>\n

    Australia has adopted the most aggressively anti-tobacco regime in the world in taking this approach, but other countries are catching up in a hurry.\u00a0 \u00a0Russia, the world\u2019s second-largest tobacco market after China, is starting to take tobacco\u2019s health risks seriously.\u00a0 Russian prime minister Dmitry Medvedev recently said that a ban on public smoking and cigarette advertising t were \u201cjust the beginning\u201d of his efforts to stamp out cigarette smoking in his country. Several countries in Latin America have joined this bandwagon as well.<\/p>\n

    Meanwhile, Philip Morris International\u2019s dividend yield, now 3.9%, is not the great selling point it used to be.\u00a0 It\u2019s lower than that of the 4.2% offered by blue chip semiconductor maker Intel (Nasdaq:$<\/span>INTC<\/a>)<\/strong> and significantly lower than that of most telecom stocks, MLPs and REITs.<\/p>\n

    Again, unlike the rest of these industries\u2014which are still growing\u2014Philip Morris faces a shrinking market for its wares.\u00a0 And its stock valuation of 17 times is ludicrous given that Intel trades for just 9 times earnings.<\/p>\n

    Taking a look at other Big Tobacco giants, the story isn\u2019t much better.\u00a0 I have a special fondness for Lorillard (NYSE:$<\/span>LO<\/a>)<\/strong> because it was one of my most successful trades in history.\u00a0 I made 40% in all of two weeks (see \u201cInsider Edge in Practice: Lorillard<\/a>\u201d).<\/p>\n

    But I wouldn\u2019t be particularly enthusiastic about buying Lorillard today.\u00a0 Based on current earnings, it actually trades at a slight premium<\/em> to the broader S&P 500.\u00a0 \u00a0Yes, the juicy 5.3% dividend is appealing.\u00a0 But Lorillard is still a cigarette company selling primarily to a shrinking U.S. market, and it\u2019s hard to justify buying it at a premium P\/E ratio.<\/p>\n

    The same is true of Reynolds American (NYSE:$<\/span>RAI<\/a>)<\/strong> and Altria (NYSE:$<\/span>MO<\/a><\/strong>), the granddaddy of all Big Tobacco stocks.\u00a0 \u00a0\u00a0Reynolds trades for a ridiculous 17 times earnings and Altria trades for 15.\u00a0 Both enjoy yields over 5%.\u00a0 (In the interests of full disclosure, MO is currently rated a \u201cHold\u201d in the Sizemore Investment Letter;<\/em><\/a> it\u2019s been a holding of the portfolio for two years, and I\u2019ve been reluctant to pull the trigger and sell because of the taxable gains it would generate.\u00a0 But I have tightened my stops in MO and am not advising that investors put new money into it.)<\/p>\n

    Investors have enjoyed a fantastic ride in Big Tobacco stocks, but like a good cigarette (or cigar if you prefer), they will eventually burn out.\u00a0 This long-time tobacco bull recommends discarding Philip Morris International like a soggy cigarette butt and viewing the rest of the sector with skepticism.\u00a0 There are better income opportunities elsewhere.<\/p>\n

    The post It’s Time to Stop Bogarting Cigarette Stocks<\/a> appeared first on Sizemore Insights<\/a>.<\/p>\n

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