In an increasingly responsible investing world, are gambling, weaponry, alcohol, tobacco and other vice stocks still viable?
Investing in sin stocks — companies involved in the alcohol, tobacco, gambling, adult entertainment, weaponry, and traditional energy sectors — has been historically profitable. These stocks typically yield high returns due to steady demand and strong profit margins, providing portfolio stability, particularly in economic downturns.
Sin stocks also benefit from monopolistic returns. Industries such as gambling and tobacco are typically highly regulated, which means existing players often have very little competition.
Several well-known sin stocks, such as Philip Morris International, Constellation Brands, and Lockheed Martin, have shown robust share price growth, increasing around 30% over the last five years. RCI Hospitality, a strip club operator, has also seen a huge surge in its share price, rising over 150% during the same period.
With the rising emphasis on environmental, social, and governance (ESG) principles, however, the relevance of holding sin stocks is increasingly questioned. Investors are now more cognisant of the long-term risks associated with these industries, including regulatory pressures, social stigmatisation as well as shifting consumer preferences towards more ethical and sustainable products. This is even more prevalent amid the ongoing armed conflicts in the world (see sidebar “The ethics of investing in defence stocks”).
This trend is particularly strong among institutional investors, who integrate ESG factors to mitigate risks and seize opportunities in the transition to a low-carbon economy. This shift aims to safeguard financial returns while promoting a more resilient and sustainable global economy.
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Throughout the early 2000s to late 2010s, numerous studies were done on the topic. Many found that although sin stocks provide superior returns and higher financial reporting quality — on the back of predictability of earnings for future cash flows and timely loss recognition — investors are willing to neglect these counters due to societal norms and to avoid any association with the stocks.
In their 2020 study, scholars Lim Sheng Yang and Koh Chin Wei note that pension, insurance, religious and university funds that position their allocations into “unethical” businesses such as sin stocks would be exposed to public scrutiny and condemnation. Due to this, the sell-side analysts, which tend to cater to institutional investors in their research and valuation reporting, would reduce their analysis coverage on sin stocks.
These institutional funds include Malaysia’s Employees Provident Fund, which has RM702 billion ($218 billion) in assets under management (AUM). The fund has been excluding investments in sin sectors and announced in 2016 that it was planning to divest its holding in tobacco company British American Tobacco to focus on investing in assets deemed socially and environmentally responsible.
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In 2019, Norway’s largest pension fund Kommunal Landspensjonskasse with US$80 billion AUM also announced that it was divesting the sin stocks in its portfolio, selling its shares in companies such as brewery Heineken and online gaming operator Paddy Power Betfair.
Arbitrage opportunities
Since sin stocks are less followed by the sell-side analysts, arbitrage opportunities arise when unscrupulous investors swoop in on them to earn excess returns, the paper by Lim and Koh suggests.
Undoubtedly, sin stocks such as entertainment-related stocks suffered during the pandemic. But, according to Morningstar senior equity analyst Jennifer Song, some typical value-based sin stocks, such as casinos and baijiu (Chinese white liquor), have certain entry barriers that allow these companies to earn high profitability and returns which create value for investors.
Singapore Exchange (SGX)-listed Genting Singapore G13 , for instance, operates in a domestically regulated duopoly market where the government licences create a high regulatory barrier to entry. This has allowed the company to earn a decent adjusted ebitda margin of 48% on average over the past 10 years from 2014–2023, Song says.
“Although the Covid-19 disruptions have dampened profitability, we see Genting Singapore’s sales revenue quickly returning to its 2019 levels in 2023 following the resumption of activities,” says Song.
For its 1QFY2024 ended March, Genting Singapore reported earnings of $247.4 million, nearly doubling that of the year earlier. Revenue jumped 62% to $784.4 million, of which gaming revenue grew to 69% or $576 million. The strong set of results was due to higher visitorship and tourism spending during the Chinese New Year festive season as well as from the relaxation of visa regulations between China and Singapore that took effect in February.
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Genting Singapore was one of the counters severely impacted by the pandemic. For its FY2020 ended December, the company’s earnings plunged 90% to $69.2 million, with ebitda declining 68% to $372.6 million. A very substantial amount — or two-thirds of its net profit for the year — was attributable to the better performance in 1QFY2020, prior to the steep onset of Covid-19 in Asia. The rest of financial year 2020 was very negatively impacted by regulatory restrictions, border closures and operating capacity due to the Covid-19 pandemic.
Bursa Malaysia-listed casino operator Genting Malaysia — whose assets include Resorts World Genting in Malaysia, and Resorts World New York City and Resorts World Catskills in the US — is also in recovery mode. For its 1QFY2024 ended March, the company posted a net profit of RM57.78 million, reversing from a net loss of RM27.38 million a year ago. Quarterly revenue rose 21.08% y-o-y to RM2.76 billion.
As for the alcohol industry, Song uses Chinese baijiu companies as an example. The hard-to-replicate aged cellar (used in baijiu production), along with their history of producing quality products, will translate into strong pricing power. As a result, Morningstar’s wide-moat-rated baijiu companies have posted an average of 42% operating margin over the past 10 years from 2014–2023, with the combined 2023 revenue 75% higher than 2019 levels, despite Covid-19 disruption and slower economic growth.
Morningstar senior equity analyst Jennifer Song. Credit: Morningstar
“Given that these sectors and companies’ competitive advantages remain unchanged, we believe the argument [that sin stocks are typically favoured for their resilience, steady demand and high profitability] is still valid. We understand the increasing awareness of ESG risks and have captured these risks in our uncertainty ratings, and risk premium in our valuation,” Song adds.
Jade Tam, an analyst at Maybank Investment Bank who specialises in brewery stocks like Bursa-listed Heineken and Carlsberg Brewery, acknowledges that sin stocks in the country have shown resilience. Despite the pandemic impacting demand, challenges such as increased production costs and reduced disposable income have hindered earnings growth in this sector. Tam notes that before the pandemic, breweries experienced consistent demand and robust earnings.
SGX players
In Singapore, some counters that may fit within the sin stock definition include alcohol players Ascent Bridge AWG , Emperador and Thai Beverage Y92 (ThaiBev), coal miner Geo Energy as well as technology, defence and engineering group Singapore Technologies Engineering S63 (ST Engineering).
Formerly known as AEI Corp, Ascent Bridge’s principal business used to be “non-sinful” aluminium parts manufacturing. On March 3, 2022, however, the company received shareholders’ approval to change its name to better reflect the focus on its new businesses in the F&B industry.
The company had then fully acquired MTBL Global, which is principally engaged in the promotion, sale, and distribution of Moutai Bulao 125ml liquor products outside of mainland China. The Moutai brand of baijiu is produced by the state-owned Kweichow Moutai Group, famously used for toasts during China’s state banquets.
In an interview with The Edge Singapore in 2021, Ascent Bridge chairman and CEO Sun Quan cites big potential in the space. He said the output value of baijiu in 2019 was nearly RMB1 trillion, but sales were mostly within mainland China. Including Hong Kong, Taiwan, and Macau, overseas sales accounted for just almost 1% of the product’s total output value, signalling massive potential for overseas penetration.
To tap this opportunity, the company then proposed to acquire more alcohol distributors, although some of the deals have fallen through. Despite the increase in sales of alcohol, the company has yet to turn profitable and exit the SGX watchlist.
Meanwhile, despite displacing ComfortDelGro C52 in the Straits Times Index less than two months after its secondary listing on the SGX, brandy and whisky group Emperador was subsequently replaced by Frasers Centrepoint Trust J69U earlier this year. Additionally, Bloomberg last year reported that GIC was mulling selling its 12% stake in Emperador, citing people familiar with the matter.
Emperador did report a slight improvement in its results — for its 3QFY2023 ended September, it posted earnings of PHP2.05 billion ($47 million), up 5.67% y-o-y following a 8.53% improvement y-o-y in revenue to PHP15.98 billion. This is driven by the brandy and Scotch whisky segments.
Although he describes this set of results as “stable”, UOB Kay Hian analyst Llelleythan Tan says Emperador’s overall margins continue to be pressured by increased promotional activities and higher interest costs. The analyst also notes that the company has no near-term catalysts.
The same cannot be said about ThaiBev — although it reported a weaker 1HFY2024 ended March results, analysts remain upbeat on the stock following its recent analyst meeting that provided updates on its long-awaited BeerCo IPO. On June 23, DBS Group Research analysts wrote that ThaiBev is aiming for early to mid-2025, when market conditions are expected to improve on lower interest rates and the US presidential uncertainty is resolved.
As international military conflicts continue across the world, defence stocks have taken the limelight, on the back of continued demand for fighter aircraft, ammunition as well as control systems and cybersecurity.
ST Engineering, for one, secured contracts worth over $100 million between April and early June for Nato standard 155mm ammunition and 40mm ammunition from European customers. According to the company in its 1QFY2024 business update, the defence and public security segment secured new contracts worth $1.65 billion for the quarter, bringing total orders to $27.7 billion. The defence and public security segment accounted for 42% of the company’s revenue.
Traditionally, only listed companies in the tobacco, casino, alcohol and defence industries are considered sin stocks. Today, scholars include companies in the oil, coal and mining industries as “new sin stocks”, amid climate change concerns. However, they note that these counters typically do not behave like traditional sin stocks, as attributes that help these companies to outperform the market do not necessarily apply to the new sin stocks industries.
In 2023, coal consumption is estimated to have reached a record high, increasing by 120 million tons (1.4%) compared to 2022, according to World Bank data. However, demand growth decelerated due to weak global economic activity, high penetration of renewable electricity, and lower natural gas prices.
Geo Energy reported a lower net profit of US$8.7 million ($11.8 million) for its 1QFY2024 ended March, down 45.6% y-o-y. Revenue fell 25% y-o-y to US$99 million, owing to lower coal (ICI4) prices averaging at US$57.23 per tonne during the quarter, compared to US$76.60 per tonne in 1QFY2023.
“Less sinful”
While selected sin stocks seem to present good buying opportunities for investors, vice-related exclusions may remain among institutional investors, says Veronique Chapplow, T Rowe Price ESG investment specialist in the equity division. She points out that there is an increased focus on active ownership, such as greater engagement rather than an outright divestment.
Veronique Chapplow, T Rowe Price ESG investment specialist in the equity division. Credit: T Rowe Price
She explains that engaging with companies allows asset managers to impart best practices and encourages companies to gradually reduce their exposure to sin activities when it makes long-term financial sense. “Divestment will only displace the capital into the hands of other investors who are less scrupulous than us and won’t reduce the amount of world capital allocated to these activities.
“A good example of this is fossil fuel-related activities. Some Nordic investors will prefer to exclude issuers involved in fossil fuel activities because of the severe environmental damage they cause. Others may decide to own them on the basis that they are critical to the transition and need to be financially supported to gradually shift away from black towards green activities. Interestingly, the recently disclosed UK ESG labelling regime includes a ‘Sustainability Improvers’ label to cater for these types of situations,” she adds.
Chapplow highlights two different sin companies that have successfully integrated sustainable practices into their operations — a move that could make them “less sinful”. One is US brewer Anheuser-Busch, whose ESG disclosure is aligned with industry-approved sustainability standards set up by Sustainability Accounting Standards Board and Task Force on Climate-related Financial Disclosures.
“Its ESG accountability is strong, with the chief sustainability officer reporting directly to the CEO. It is one of the first consumer companies to have had its climate targets validated by the Science Based Targets initiative. It has taken the initiative to promote smart drinking, even in areas where there are no government mandates to do so. As part of its 2025 agenda, it is aiming for 20% of its sales to originate from low- and non-alcoholic beer,” says Chapplow.
Another example is gaming company Penn Entertainment, which sold its sports media site Barstool Sports business back to one of its co-founders Dave Portnoy in August 2023. This removed concerns about the promotion of offensive content, says Chapplow.
Founded in 2003, Barstool Sports initially started as a print publication distributed in the Boston area, focused on gambling advertisements and fantasy sports projections before transitioning to an online platform. The site has garnered significant controversy over the years due to its often provocative and irreverent style, frequently touching on sensitive topics that have sparked public backlash.
In Chapplow’s view, the company’s approach to responsible gaming is adequate — it has set up a responsible gaming committee firmwide and at its properties, and its policies adhere to the American Gambling Association’s Responsible Gaming code. The code establishes minimum standards that address problem gambling, underage gambling, improper use of alcohol, responsible marketing and advertising.
While T Rowe Price acknowledges its progress, the firm believes that the company could improve further by introducing active monitoring to detect “at-risk” customers and more proactive interventions, says Chapplow.
Morningstar’s Song points out that there is also rising non-gaming investment made by gaming companies to address potential risks in their “sin” nature. For example, Genting Singapore’s non-gaming revenue rose to 32% of the total revenue in 2023, up from 23% a decade ago. It is also continuing to invest in its non-gaming facilities through its RWS 2.0 development.
“Similarly, Macau casinos are investing heavily in non-gaming facilities and events, and for the 10-year new concession period through 2032, the six Macau casinos have committed to invest about MOP120 billion [$20.2 billion] with over 90% in non-gaming investments, including MICE [meetings, incentives, conferences, and exhibitions], shows, concerts, arts and sports, among others. This will help to diversify Macau casinos’ income sources and shift Macau towards a global entertainment hub from a pure gambling centre,” she adds.
Unaccounted risks
Aside from making direct investments, investors who are interested in increasing their holdings in sin stocks also have the option of investing in “sin funds”. One example is the USA Mutuals’ Vice Fund (VICEX), which seeks to capture better long-term risk-adjusted returns than the MSCI ACWI Total Return by investing in stocks within the alcoholic beverages, defence/aerospace, gaming and tobacco industries.
According to its 1Q2024 fund fact sheet, the VICEX Fund’s top five holdings as at March are defence companies Northrop Grumman Corp (9.73%), RTX Corporation (9.04%), BAE Systems (6.82%) as well as alcohol companies Diageo (5.83%) and Anheuser-Busch InBev (5.35%). The fund is underperforming its benchmark, providing annualised total return of 3.70% for the 10-year period, compared to its benchmark’s 9.22%.
There are also sin-related exchange-traded funds, such as the AdvisorShares Vice ETF, which invests in the alcohol, gambling, and tobacco industries, aside from companies providing products or services related to gaming, F&B, restaurant and hospitality, or other vice-related consumer trends.
As at March, the Vice ETF’s top five holdings are vape company Turning Point Brands (5.91%), semiconductor giant Nvidia (5.65%), casino operator MGM Resorts International (4.96%), tobacco company Vector Group (4.73%) and brewer Molson Coors Beverage (4.68%). The ETF is also underperforming its benchmark S&P 500, providing five-year net asset value trailing returns of 4.65% compared to its benchmark’s 15.05%.
Templeton Global Equity Group portfolio manager and research analyst Alan Chua points out that there is a general perception that typical sin stocks are businesses with relatively durable, recurring revenues due to attributes that make them appear more attractive than other businesses. While some of these attributes may be seen positively as having a defensive nature, he believes this characterisation is superficial, in that it fails to factor in structural shifts which may occur.
This includes long-term decline in drinking and smoking, rise in age of legal consumption, as well as regulatory measures on marketing. Once these are factored in, the sin stocks may not appear as compelling as a long-term investment, he adds. “Sin stocks may be profitable as investments, but in terms of a viable investment, we think there could be risks which may not be properly accounted for and may carry the potential to materially impact these businesses,” says Chua.
While Song believes that selected sin stocks will still remain attractive to investors, she also notes the potential risks that may affect the companies’ outlook. A higher gaming tax, for instance, may lower casino operators’ ebitda margins. There is also the intangible advantage of hard-to-attain licences, believing that governments will allow casinos to earn a fair return.
“For alcohol companies such as the baijiu sector, environmental concerns may also increase baijiu company’s costs, but we believe wide-moat company’s strong pricing power will allow them to migrate the costs through price hikes, allowing them to continue to earn returns that are higher than cost of capital,” Song concludes.
