Investors Lose a Major Justification for Holding Tobacco Stocks

(Bloomberg) -- It wasn’t so long ago that the stellar performance of tobacco stocks such as British American Tobacco Plc and Philip Morris International Inc. was enough justification for asset managers to hold onto their investments, despite a broader push toward socially responsible investing.

But in recent years, a flurry of European pension funds and insurers have begun divesting their holdings, putting pressure on the share prices. BAT had its worst year on record last year, slumping 50 percent, as the U.S. Food and Drug Administration toughened its stance toward the tobacco industry. Philip Morris slumped 37 percent.

The MSCI World Tobacco Index returned an impressive 1,437 percent from the end of 1999 through 2015, compared with just a 72 percent return for the broader MSCI World Index. But since 2016, when momentum for tobacco-free portfolios finally started to take hold, the industry has underperformed the broader benchmark.

“Clearly, selling pressure from some investor classes who have decided that it is inappropriate to invest in tobacco for environmental, social and governance reasons will have been unhelpful for tobacco share prices, given the scale of some of the institutions concerned,” Investec analyst Eddy Hargreaves said in written comments.

Bronwyn King, an Australian doctor who treats cancer patients, was shocked to discover in 2010 that her retirement fund was investing in tobacco companies. This prompted her to establish Tobacco Free Portfolios, a non-profit organization that encourages pension funds, sovereign wealth funds, banks and insurers to stop investing in tobacco.

The initiative went global: French insurer Axa SA in May 2016 announced it would stop investing in the tobacco sector due to the prevalence of smoking-related diseases. U.K. insurer Aviva Plc started selling its tobacco shares in June 2017 and no longer holds any of the stocks in its actively managed funds, the company said.

The momentum has spread further throughout Europe since then. Stichting Pensioenfonds ABP, the pension fund for Dutch government and education workers, in January 2018 pledged to sell all of its investments in the tobacco and nuclear-weapons industries within a year, while Swedish pension fund Forsta AP-fonden said that tobacco was among the industries its AP1 fund no longer invests in as of the beginning of this year.

The exit by pension funds and insurers added to the tobacco industry’s woes at a time when it also faced increased regulatory scrutiny from health authorities trying to limit the spread of the cancer-causing product, as well as the uncertain volume trajectories of both conventional cigarettes and so-called next-generation devices.

“We don’t anticipate a sea-change back into more positive investor sentiment for tobacco in the nearer term,” said Hargreaves, who said tighter regulation was having a bigger impact on the stocks than the divestitures.

Tobacco shares surged after the surprise resignation announcement on March 5 from FDA Commissioner Scott Gottlieb, who had indicated the agency would seek to require companies to reduce nicotine levels and restrict sales of e-cigarettes to minors and of menthol cigarettes.

Still, Credit Suisse Group AG analyst Alan Erskine warned that optimism over a potential change in FDA’s policy direction was misplaced.

“Whilst there might be a short delay in policy announcements, we think the FDA will still file, later this year, a notice of public rulemaking, proposing to ban menthol cigarettes,” Erskine wrote in a March 11 note.

Ned Sharpless, the director of the National Cancer Institute, will serve as temporary chief of the FDA when Gottlieb leaves this month, officials said Tuesday.

BAT will be holding a meeting for investors and analysts on Thursday, where the market focus will be on further detail about the tobacco giant’s plans for cigarette alternatives to counter tightening regulation and growing competition from the likes of Philip Morris’s IQOS and industry upstart Juul Labs Inc.

Meanwhile, the selloff by big investors may have further to go: On average institutions still own about 86 percent of tobacco companies’ shares, according to data compiled by Bloomberg for stocks in the MSCI World Index, compared to 76 percent of all companies in the benchmark.

--With assistance from Macarena Munoz and Hanna Hoikkala.

To contact the reporter on this story: Lisa Pham in London at lpham14@bloomberg.net

To contact the editors responsible for this story: Celeste Perri at cperri@bloomberg.net, Phil Serafino, Jon Menon

©2019 Bloomberg L.P.