(The author is a Reuters Breakingviews columnist. The opinions expressed are his own.)

By Neil Unmack

LONDON, June 21 (Reuters Breakingviews) 

Economics rather than ethics will choke big tobacco. Aviva is the latest investor to quit cigarette stocks. The sector has yet to suffer any material harm. Nor does it lack capital. Yet there are plenty of reasons to be nervous about current valuations.

Achmea, AXA and SCOR have already decided not to invest in a product that the World Health Organisation says kills 7 million people a year. The retreat from the sector reflect the rise of socially responsible investing, which accounts for one in five dollars managed in the United States.

But big tobacco has yet to feel much pain. Such companies generate plenty of cash, reducing the need to raise capital. Tobacco firms accounted for a quarter of 1 percent of all debt and equity capital issues over the last five years, according to Thomson Reuters data. And while some investors are becoming more virtuous, money is still pouring into passive tracking funds that don’t discriminate against so-called sin stocks or funds that prize the dividends tobacco firms pay out. Shorting big tobacco has also usually been unprofitable.

The volume of cigarettes sold is falling as old smokers die and governments discourage new ones. Excluding China, global volumes have fallen by an average of 1 percent a year since 2002, according to Berenberg analysts. But companies have raised profits by hiking prices. As a result, tobacco stocks have delivered a total shareholder return of over 1,100 percent since 2002. Little wonder the sector is trading at 20 times forecast earnings for the coming year, above the 19 times multiple for global stocks, according to Thomson Reuters Datastream.

Such lofty valuations may not be sustainable. First, rising interest rates could curb demand for high-dividend stocks. Second, fewer young people are taking up the habit. In the UK just one in five people aged between 18 and 24 smoked in 2016, compared with more than a quarter in 2010. Third, it’s unclear whether alternatives such as e-cigarettes and tobacco-based heating products will be as lucrative. These products only account for a 10th of sales and may yet face regulators’ ire. Market share will also become less stable as users will be more apt to switch brands because of technological innovations. Taking the moral high ground on tobacco stocks will increasingly make economic sense.

CONTEXT NEWS

- Aviva, the UK’s largest life insurer, plans to stop investing in tobacco company assets, Reuters reported on June 20.

- The group, which holds about 1 billion pounds ($1.3 billion) of bonds and equities in its life insurance portfolios, plans to sell its holdings or allow bonds to mature without reinvesting in the sector. Aviva will continue to invest in tobacco stocks through third-party funds, such as unit trusts.

- Tobacco companies have returned more than 1,100 percent to shareholders since 2002 through capital growth and dividends, according to Thomson Reuters Datastream.

- Tobacco companies accounted for 0.26 percent of global debt capital market sales and 0.25 of new equity raises in the past five years, according to Thomson Reuters data.

(Editing by Swaha Pattanaik and Bob Cervi)

© Reuters News 2017