NextBillion - An Initiative of the William Davidson Institute at the University of Michigan

Friday, February 13, 2015

The politically correct and socially sustainable is, though certainly laudable, not particularly profitable. Investors shunning sin stocks manage portfolios that are, on average, significantly less profitable than those possessed by shareholders without similar scruples.

A study released earlier this week by the London Business School (LBS) concludes that the historically already higher-than-average returns offered by industries preying on human frailties have received an additional boost from recent efforts by institutional investors to clean up their portfolios.

According to LBS Professor Emeritus Paul Marsh, one of the study’s authors, the glut of stocks sold for reasons other than those related to corporate performance represent a boon to investors less bothered by ethical considerations: “Shares in well-run companies may now be acquired at a considerable discount.” Some investment funds have tapped this segment and offer a mix of vice stocks as vicious as profitable.

Prof Marsh and fellow researchers Elroy Dimson and Mike Staunton calculated that a single dollar invested in a US tobacco company in 1900 would have turned into well over $243,000 today. In case reinvested dividends are taken into account, that original dollar would now be worth close to $6.3 million. Conversely, had that dollar been used to buy stock in an engineering company, it would have grown to just $2,280.

“Bizarrely, this would be evidence that the faith-based investors of the first half of the 20th century, and all sorts of ethical investors in the second half, had an effect,” says Prof Dimson. However, it may not quite have been the effect anticipated. The LBS study, commissioned by Credit Suisse for its Global Investment Returns Yearbook, shows that tobacco has been the most profitable US business segment since 1900. In the UK, the market was led by the alcohol industry with big tobacco trailing closely.

Dividend yields of vice shares are also generally superior. The S&P 500 Tobacco sub-index boasts an average dividend yield of 4.23% as compared a market average of just 1.97%. The gaming industry also offers a dividend yield about twice as high as the overall market.