This is a 'golden age' for tobacco investors

There was once a time when Americans consumed 13 pounds of tobacco per person per year.

Since the 1960s, US tobacco consumption has steadily declined as health fears and government regulation have hampered the industry.

Tobacco companies, however, are now back in the good times, according to Christopher Growe, Andrew Carter, and Matthew Smith at Stifel, a brokerage and investment-banking firm.

“We continue to refer to this period of time as ‘The Golden Age,’ given the robust growth dynamic currently in place and we believe we could see upside to earnings during this period of volume growth even in relation to our strong current growth estimates,” the analysts in a note to clients on Wednesday.

In years past, the industry had to mitigate lower-volume shipments and the lowest percentage of Americans smoking ever by raising prices. Those price increases are still happening, but the losses have slowed, and in recent quarters they have gone positive for the first time since at least 2007.

There are a number of reasons for this, which the analysts point out, from American consumers having more money because of cheaper gas to higher rates of employment for key categories.

“We believe the major benefit from these improved economic conditions accrues to volumes and may have some positive impact on product mix if consumers are more apt to purchase premium brands,” the analysts said.

“It is clear these improved economic conditions have turned a category prone to declining 3%-3.5% historically into one that is flat to growing.”

One of the main reasons Stifel cites for the growth is the $US25 billion acquisition of Lorillard by Reynolds American.

This deal combines the second- and third-largest cigarette makers in the US by market share. It means the three largest tobacco companies — including Altria (owners of Phillip Morris USA) and Imperial along with the newly merged Reynolds — control 95% of the global market.

“Although pricing has been moving up roughly $US0.14 per pack annually, this rate of growth may well accelerate in part due to the consolidated market share as well as the less aggressive pressure on the low end and improved economic conditions supporting the premium brands,” the report said.

This “golden age” has benefited stockholders, too, the analysts say. Tobacco companies are outpacing the S&P 500 by 14.3% so far in 2015, and even outpacing the category it is most closely associated with, consumer staples, by 3.8%.

Add up better sales, growing margins, and higher stock prices, and the analysts think the good old days are back for tobacco.

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