Nothing is more detrimental to the long-term viability of an investment theme than its own success. In the often circular logic that defines the market, profitable trades can only remain so as long as they are unpopular. Once they are embraced by the investing public, prices have generally risen to a point that would make the trade unattractive to its original value-focused adherents.
It is thus with great sadness that I must recommend readers sell their shares of Philip Morris International (NYSE: $PM). At current prices, this is a dividend stock best avoided.
When Altria (NYSE:$MO) spun off its international tobacco businesses and formed Philip Morris International in 2008, it was about as close as you could get to the perfect stock. You had all of the standard bullish arguments for tobacco—recession-resistant demand, an addicted customer base, low marketing costs, high cash flows, etc.—but without the threat of crippling lawsuits from the U.S. tort system.
Philip Morris International was also uniquely positioned to take advantage of rising incomes in the developed world. As consumers in key emerging markets such as China traded up from lower-quality domestic brands, the maker of Marlboro was uniquely positioned to benefit, and still is.
And finally—and perhaps most importantly—Philip Morris International was a dividend-producing powerhouse at a time when decent yields were hard to come by.
It was the convergence of all of my favorite investment themes in one stock: a high-dividend sin stock with emerging market growth and brand cachet!
But no matter how great an investment looks, your long-term success is ultimately dependent on the price you pay. And the reason that tobacco stocks have been such great wealth-creation vehicles in recent decades is because they have been perpetually priced as high-dividend value stocks (see “The Price of Sin”).
Let’s face it. Tobacco is not a growth industry, not even in most emerging markets. While smoking remains popular in many, market penetration hit the high-water mark a long time ago. And as health awareness rises with incomes, the best the industry can hope for is gentle decline.
Knowing this, long-term investors tend to by tobacco stocks for one and only reason—the high dividends they offer.
Yet consider how Philip Morris International’s dividend stacks up with other consumer-oriented companies with large footprints in emerging markets.
|Company||Ticker||Dividend Yield||Forward P/E|
|Johnson & Johnson||JNJ||3.7%||12.1|
|Philip Morris International||PM||3.6%||14.8|
|Procter & Gamble||PG||3.8%||15.1|
At current prices, investors can get a higher dividend yield in Johnson & Johnson (NYSE:$JNJ), Procter & Gamble (NYSE:$PG) and Unilever (NYSE:$UL), and Philip Morris International trades at a higher P/E ratio than all but Procter & Gamble. And while each of these three examples has had its share of problems in recent years, the longer-term prospects for all are vastly superior to those for Philip Morris International.
Let me put it to you like this: 50 years from now, I suspect that Philip Morris International will still be selling plenty of cigarettes. But I’m betting that Johnson & Johnson, Procter & Gamble, and Unilever are selling a lot more Band-Aids, razor blades, and shower gel, respectively. I’m grossly oversimplifying the businesses of all three of these companies, but my point stands: Philip Morris International is only attractive if it is priced at a significant discount to mainstream consumer products companies like the ones mentioned in this article.
This condition does not hold today, which is why I must regrettably make Philip Morris International a “sell.”
Investors looking for income these days still have plenty of decent options, even if reliable choices from years past are no longer as attractive as they might been. Many oil and gas master limited partnerships offer attractive yields, as do select specialty REITs. Telecom and utilities stocks are also attractive. But at current prices, investors might find Philip Morris International’s stock as dangerous as its products.
Disclosures: Sizemore Capital is long MO, PG, JNJ and UL