Pension Funds Review Tobacco Divestment

Source from:  Financial Times 04/25/2016

Just 15 years ago, the tobacco industry was considered to be in terminal decline, given its exposure to multibillion-dollar lawsuits, government clampdowns on marketing and rising consumer aversion to smoking in developed countries.

But fast forward to 2016 and cigarette makers like Philip Morris and British American Tobacco have emerged unscathed from what was considered a lethal combination of threats to their profitability.

The FTSE All World Tobacco index, which tracks the performance of the world's biggest cigarette companies, has returned 988 per cent since 2000, significantly outpacing the 131 per cent return for the FTSE All World index.

This raises an uncomfortable question for many of the world's largest public pension schemes: should they invest in tobacco?

Those that do are buying into an extremely profitable industry that slowly kills off their members and raises healthcare costs. This in turn dents the tax revenues cities and states can afford to pay into their pension schemes.

Phil Angelides, former state treasurer for California and chairman of Riverview Capital, an investment company, believes tobacco stocks have no place in public pension funds' investment portfolios.

He says: "Pension schemes can invest in a wide array of options, without investing in an industry that kills a lot of people and causes a massive public health cost. These companies do so much damage to our economy, our health and our society.

"I find the arguments [against tobacco divestment] intellectually shallow and lazy. They have not examined the opportunities elsewhere in the market."

But retirement schemes that exclude tobacco from their portfolios risk losing billions of dollars in missed profits over the long term, as Calpers, the largest US public pension scheme, recently discovered.

Last year, the $290bn Californian fund commissioned research to find out how much money it had lost as a result of blacklisting tobacco companies in 2000.

Wilshire Associates, the consultancy that carried out the research, estimated Calpers potentially forfeited $3bn in missed returns. The pension scheme's board last week voted in favour of assessing whether it should move back into the sector.

Calpers is not alone in terms of missing out on tobacco profits. A handful of large institutional investors around the world have similarly pulled out of the sector over the past 10 years, and many of them concede this decision has hurt performance.

This includes the Norwegian oil fund, the world's largest sovereign wealth fund, which has missed an estimated $1.9bn in returns as a result of dropping cigarette manufacturers six years ago.

Calstrs, the second-largest US public pension scheme, and PFZW, the $215bn Dutch pension fund, also acknowledge they have missed returns, but do not disclose the impact of tobacco divestment on performance.

Unlike Calpers, none of these investors have any intention of moving back into tobacco.

This stance has surprised some observers, who believe pension trustees should strive for the best possible financial returns, irrespective of ethical concerns.

"Not investing in tobacco is one of the worst investment decisions a fund can make. The fund managers are there to make money for their members, that is it. They are not there to be politically correct. Funds have a fiduciary duty to make money," one FT reader commented last week.

In the eyes of several fund managers in the mainstream investment market, avoiding tobacco stocks could soon become a sensible strategy for pension schemes from a financial perspective.

Stephen Bailey and Jamie Clark, portfolio managers at Liontrust, the London-listed asset manager, view the tobacco sector as a "yield trap". This is partly because of the global shift towards plain packaging of cigarettes to protect public health, which has diminished tobacco companies' brand value and pricing power.

In a recent blog post on the tobacco industry, they say: "There are not many industries whose operating model involves killing their consumers. Developing markets are now following developed markets' lead in legislating to inhibit the industry's activities."

Ethical investment: Big backers of Big Tobacco

From Norway to New Zealand to New York, big pension schemes have ditched tobacco companies over the past 20 years for two reasons: financial risks facing the sector and ethical qualms about profiting from it.

But the vast majority of public and private pension schemes have stuck with the likes of Philip Morris and British American Tobacco because of the sizeable returns on offer from cigarette manufacturers.

This includes ABP, Europe's largest pension fund; USS, the £40bn UK scheme for retired university employees; Railpen, the £21bn pension scheme; and the Florida State Board of Administration, which reversed a ban on its $150bn pension scheme investing in tobacco stocks in 2001.

A spokesperson for USS says the trustees of the scheme make investment decisions that are "in the best financial interests of our members".

She added: "We do not divest from specific sectors based solely on a set of ethical guidelines."

ABP, which looks after the pensions of one in six families in the Netherlands, has an exclusion policy that relates solely to violations of international and national laws, as well as the UN Global Compact principles on corporate conduct.

A spokesperson for APG, the company that oversees the €350bn scheme, says: "Yes, it goes without saying that we have looked at [divesting from tobacco], because of the varying opinions in society on this matter.

"As part of the continuous review of policy, we regularly engage with civil society stakeholders to better understand topics such as adverse health impacts of products. Tobacco has not been excluded under the responsible investment policy of our clients, so we haven't divested from this sector." Enditem