Chart of the week

Guns, Smokes & Trash for the long run?

What does this chart show?

Over the past 25 years investments in guns, tobacco, and trash collection have outperformed the S&P 500 and NASDAQ by wide margins.

Guns are proxied by the MSCI World Aerospace & Defense Index, Tobacco is proxied by the MSCI World Tobacco Index, and Trash is proxied by Waste Management (ticker: WM)

Why does it matter?

Investors seeking outperformance often flock to invest in the most flashy and ‘innovative’ sectors of the market. In past years this was high growth and profitless technology companies or thematic funds focused on electric vehicles, green energy, and genomic innovation.  Overlooked are timeless and enduring industries like tobacco, defense, and waste management that’ve stood the test of time despite the zeitgeist that paints them with an uncool, low-tech stink.

These industries have been outperformers from an investment perspective for a few key reasons. First, they all operate within oligopolistic markets with high barriers to entry. These barriers are reinforced by government regulation which limits competition and enables their surplus pricing power and profitability. Good luck replicating the network of collection routes, navigating the approvals for new landfills, and shelling out the high fixed costs associated with the waste management industry. 

Next, as financial theory suggests, areas of the market that are avoided see depressed prices and higher expected returns. The companies within these industries tend to have high profitability, low debt, low earnings volatility and superior loading of the value factor¹. Lastly, these industries have demonstrated the ability to deftly navigate periods of elevated inflation that are bad for markets generally. The tobacco industry uses the impact of excise taxes to mask the level of price increases they take while the defense industry has contracts that allow for the companies to pass along the impact of inflation right back to the government.

The Bottom Line

Investing in reasonably priced businesses with strong unit economics and high barriers to entry that have stood the test of time makes for nice investment returns. Sometimes the answer is hiding in plain sight.

Credits - The great research of Lawrence Hamtil

1. Tobacco and Defense as Inflation Shelters by Lawrence Hamtil