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Five Tobacco Stocks to Buy

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Most investors consider cigarette companies as utilities that generate steady cash flow streams over the years. It is true that some small and large investors refrain from investing in “sin” stocks such as tobacco stocks, but there are several strong reasons for investing in this group of equities. Cigarette companies operate in an extremely regulated industry with high barriers of entry, which somewhat protect the revenue streams generated by incumbent companies. Moreover, tobacco companies usually have very loyal customers, who do not give up smoking even during periods of economic hardship. Customers around the world are fully aware of tobacco’s harmful health effects, which makes us believe that global smoking rates will continue to decline in the upcoming decades. According to Euromonitor, approximately 20% of the global population is still smoking, down from 22% in 2005. However, the tobacco industry is not anticipated to decline forever, considering the industry’s strong focus on research and technology. Cigarette companies have been working on developing a wide portfolio of smoking alternatives, such as electronic cigarettes and chewing tobacco, which have already unlocked new revenue streams. The transition to allegedly less harmful smoking products will enable tobacco companies to continue growing in the years ahead. Surprisingly or not, cigarette companies are on a tear, so let’s take a look at five most-favored tobacco stocks in the hedge fund industry.

At Insider Monkey, we track around 730 hedge funds and institutional investors. Through extensive backtests, we have determined that imitating some of the stocks that these investors are collectively bullish on can help retail investors generate double digits of alpha per year. The key is to focus on the small-cap picks of these funds, which are usually less followed by the broader market and allow for larger price inefficiencies (see more details about our small-cap strategy).

#5 British American Tobacco PLC (ADR) (NYSEMKT:BTI)

– Hedge Funds with Long Positions (as of December 31): 15

– Value of Hedge Funds’ Holdings (as of December 31): $451.56 Million

The number of hedge funds from our system with stakes in British American Tobacco PLC (ADR) (NYSEMKT:BTI) remained unchanged in the fourth quarter of 2015 at 15, while the value of those stakes increased to $451.56 million from $398.59 million quarter-on-quarter. The resilience of the tobacco industry, assisted by a sustained volume growth in emerging markets, was reflected in the company’s financial results for 2015. The maker of Lucky Strike and Kent cigarettes experienced a very strong second half of 2015, with cigarette volume increasing by 1.7% year-on-year. Nonetheless, the company’s total Group cigarette volume for the full year was down by 0.5% year-over-year to 663 billion. The decline is notably better than the tobacco industry decline of 2.3%. At constant currency rates, the world’s second largest tobacco company delivered revenue growth of 5.4% year-on-year in 2015, adjusted profit from operations growth of 4.0%, and adjusted diluted earnings per share growth of 10.1%. BAT also sees potential in Next Generation Products such as Vapour Products (e-cigarettes) and Tobacco Heating Products, which will definitely enable the company to keep growing. Shares of BAT are up by 3% in the past 12 months and are trading at 16.5 times expected earnings versus a forward P/E multiple of 21.0 for the Tobacco industry. The company also pays out an annualized dividend of approximately $5.84 per share, which equates to a current dividend yield of 5.12%. Jim Simons’ Renaissance Technologies reported owning 608,700 ADRs of British American Tobacco PLC (ADR) (NYSEMKT:BTI) in its 13F filing for the December quarter.

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