If you ever take a stroll along the beautiful streets of Amsterdam you’ll notice the ubiquitous Smoke Shops that serve people of all types. The one consistent sign that gets displayed in shop windows is not “No pets allowed” or “Smile! You’re on camera!” You’ll see “No Tobacco Allowed” signs instead. Marijuana is the drug of choice due to its 100% natural substances. Tobacco, on the other hand, is laced with hundreds of chemicals that have been linked to cancer.
With roughly 23 states plus the District of Columbia legalizing marijuana to some extent so far, the opportunity to invest in the marijuana industry is growing as more states legalize.
Remember, it was only in 2000 that all smoking was banned on commercial airplanes. The thought of anybody smoking on a plane now sounds absurd. Perhaps one day we’ll look back and scratch our heads that marijuana was ever illegal while tobacco was legally pushed in every single gas station, grocery story, and convenience story in America.
Vice Investing Can Be Defensive
When one considers what constitutes vice — alcohol, gaming, adult entertainment and big tobacco are some examples — it’s apparent that these industries are recession-resistant, meaning that regardless of how poor or excellent the economy is performing, there will always be a demand for the products created in each one.
People drink to celebrate, to relax, or to drown their sorrows. People gamble when they feel lucky, or when they’re trying to change their luck. Weapons will continue to be sold as wars continue to be fought so long as scores need to be settled. Lust is an emotion that can never be fully vanquished.
Example: Tobacco Stocks Outperforming The S&P 500
Source: Bloomberg Finance
The above chart shows the performance of tobacco stocks compared to the S&P 500 since 2004. Despite tobacco being linked to thousands of deaths each year, tobacco stocks have outperformed the S&P 500 by almost 500% during this period of time.
Tobacco stocks are considered recession-resistant because consumers choose to smoke during good or bad times thanks to tobacco’s highly addictive ingredients. Combine a sticky demand curve with the fact that tobacco stocks pay strong dividends each year due to high profitability, it’s easy to see why the tobacco industry has performed well in the last 10 years, although increased regulation continues to make inroads in performance.
If investors followed socially-conscientious investing patterns and really believed tobacco was an evil vice that must be stopped, such demand for tobacco stocks and other vice industries would simply cease to exist.
Figures from The Vice Fund, which invests exclusively in the alcohol, gaming, tobacco and defense industries with an average market capitalization of $38.1 billion, show that a hypothetical investment of $10,000 made to the fund in 2002 and held through December 2013 could have consistently outperformed the S&P 500 Index and reaped its holder $33,437 over that period versus the $25,410 an investor could have made with the S&P 500.
Of course, the definition of a vice is up for debate. Not included in the fund are stock interests of fast food companies like McDonald’s, or any number of publicly-traded adult entertainment stocks, the latter of which its founder doesn’t believe have enough growth-oriented companies.
If you believe the US economy is trending toward a downturn or a protracted period of volatility, you might consider defensive strategies, such as the Seven Deadly Sins motif. The motif has underperformed the S&P 500 in 2014 as the markets ramped to new highs.
Is It Moral To Invest In Vice?
What is moral is a hard question to answer. Is it moral to eat meat when it requires killing animals? If it’s immoral to eat meat, then is it also immoral to wear leather belts and shoes? Is it immoral to stand by and just watch people eat meat and wear leather shoes if we believe in the value of animal lives? None of these questions are easy to answer. People often believe one thing and do another.
If you prefer find alternative investment strategies devoid of vice investing, you can find Socially Responsible Investments (SRI) investments that specifically shun vice stocks from their holdings. SRI has grown significantly in the past decade, with the amount of total managed assets held by such funds have grown by 22% to $3.74 trillion in 2013.
In general, Socially Responsible Investing involves investing in companies that value issues like environmental protection, religious rights, and other social welfare causes. In general, SRI-focused funds screen to exclude the companies that The Vice Fund seeks — guns, alcohol, cigarettes, and gambling — because SRI funds are intended to support only do-good businesses.
Still, who’s to say that SRI funds are squeaky clean? Ahren’s book points out that a number of socially responsible funds actually own shares in companies that have been guilty of unethical business practices.
To date, ~4.0% of Domini Social Equity Fund’s SRI portfolio consists of shares in a large software company known to have engaged in monopolistic business practices. An oil and gas company responsible for one of the largest toxic waste spills in 2013 North America has ever experienced is Domini’s second largest holding at ~2.7%. Meanwhile, another large software manufacturer provides technology for defense companies.
If you don’t want to invest in vice and believe a collapse in oil prices and a large correction in the Russian stock market is not a harbinger for weak global demand, we’ve created the Socially Responsible motif, which has outperformed the S&P 500 in 2014.
Know Your Risk Tolerance And Your Holdings
Let’s say you were given a choice to invest your remaining $10,000 in a bundle of vice stocks that had a high probability of turning into $100,000 over the next 10 years vs. investing a group of SRI stocks that had a high probability of turning into $20,000 during the same period of time. Which investment do you make?
To make things a little more real, let’s say you’re making just enough to provide for a family of four, but you aren’t making enough to save anything for your two children’s exorbitant college tuition when the time comes. Furthermore, you’ve been unable to make significant financial gains in part to the long-term care treatment commitments for an aging parent. Do you still shun vice investments?
Nobody knows for sure whether investing in marijuana, a natural substance welcomed by the Dutch will be as lucrative as tobacco stocks over the next 10 years. But a report by marijuana research and advisory firm, Greenwave Advisors, the marijuana industry may grow to a $35 billion a year market by 2020 if all 50 states and the Federal Government legalize marijuana. But with new industries come significant risks and lack of historical perspective, as many of these companies are thinly traded and have little track record. Then there is still the significant legal hurdles.
Whether or not you decide to vice up your investment portfolio with marijuana stocks, your guiding investment principles should be well defined. Know your threshold for financial risk, and then select your investments accordingly based on your objectives. Just as vice can take on innumerable forms, so can risk. Choose your investments wisely and follow them just as closely.
Photo Credit: http://commons.wikimedia.org/wiki/File:Flowering_Cannabis_Plants.JPG
Disclaimer: Hypothetical investment results from Vice Fund does not involve an actual investment and is not intended to represent results you could expect to achieve. The hypothetical test would not take into account certain fees and commissions and timing of investments that could otherwise have a negative impact the performance of an actual investment.