Should You Invest in Vice Stocks or Virtuous Stocks?

by May 7, 2020Personal Finance

Human behavior is so predictable: after the COVID crisis started, market research company Nielsen reported that alcohol sales grew 55% in the third week of March compared to the same week in 2019. Sales of hard-liquor increased a whopping 75%! Beer sales grew 90% (at least for 24 and 30 units per package).

To be fair, these higher sales don’t necessarily mean higher stock prices. Regardless, this behavior is typical of a crisis. Consumption of alcohol and cigarettes usually go up.

Between February 2009 and February 2010, RICK grew from about $3 to about $15. RICK is the stock symbol for Rick’s Cabaret International, a chain of “gentlemen’s clubs” (an expression which sounds like the ultimate irony, but let’s move on).

Between May 2009 and April 2010, LZB grew from about $2 to about $13. LZB is the ticker symbol for the ultimate reclining-chair maker, La-Z-Boy.

Both stocks are considered as “vice stocks.” Vice stocks are basically the opposite of virtuous stocks, which are favored by the concept of “Socially Responsible Investing” (SRI).

One of the reasons vice stocks fare so well is that people don’t suddenly quit their bad habits during a recession, quite the opposite. People want to forget the bad times and tend to drink, smoke and/or gamble more.

Two studies, one from Yale and one from Princeton, show that vice stocks outperformed virtuous stocks in 35 out of 37 years. One of the reasons found is that many of the businesses involved often benefit from high barriers to entry, because of high taxes and strict regulations.

So what are vice stocks?

They are recession-resistant stocks that often perform extremely well, partially because of the predictability of human vice. One financial newsletter recommends (or rather, used to recommend) such securities in what they call their “Seven Deadly Sins Portfolio,” which included:

* Gluttony, with stocks like Diageo, the world’s largest spirit maker, based in London.

* Greed, with stocks like Goldman Sachs (the investment bank) and Wynn (the casinos).

* Sloth, with stocks like La-Z-Boy, DirecTV and video game companies.

* Pride, with stocks like tobacco giant Philip Morris.

* Envy, with stocks like Tiffany’s.

* Lust, with stocks like Rick’s Cabaret International. 

* Anger, with stocks like gun-maker Smith and Wesson.

Meanwhile, Socially Responsible Investing (SRI) favors companies that make a profit while making a positive contribution to society. You may also see it called ESG, which stands for “Environmental, Social, and Governance.” In either case, companies must respect certain concepts such as:

* corporate responsibility

* societal concerns

* respect for the environment.

* good employer-employee relationships

* safe and useful products

* respect for human rights, world-wide.


On the opposite, SRI bans companies which:

* have business practices and products that are harmful to individuals or the environment

* allow excessive executive pay

* have debatable labor practices

* allow gender and/or racial discrimination

* contribute to pollution and climate changes

So what’s an investor to do, prefer vice stocks or virtuous stocks? 

Instead of a black and white answer, here are a few questions to help you understand that the answer is not that simple:

* If you invest in a timber company (i.e. that grows trees), like Rayonier or Plum Creek Timber, does that make you a virtuous investor? Did you ever wonder how cigarette packaging is made? Or what Playboy magazine is printed on?

* If you invest in Ford or Toyota, which make cars that we so depend on but that cause pollution, does that make you a bad person?

* If you invest in an oil-producing company, which in the end helps produce gas for your car, generate heat for your house, and make plastic containers where you freeze food, does that make you irresponsible?

* If you invest in a bank, the epiphany of greed, does that make you a greedy person? How would you purchase a house or a vet clinic without a bank loan?

* If you refuse to invest in La-Z-Boy but buy their furniture, or in a video game company but use their games, or in Smith and Wesson but own a gun, does that make your behavior illogical?

In theory, the concept is admirable. Applying it fully is much harder, especially if you own mutual funds. If you invest in a mutual fund, directly or through a 401(k), are you certain that you don’t own shares of vice stocks?

It is really, really tough to find companies and executives that are totally irreproachable, or companies that are truly 100% “socially responsible.”

And here is the proof: some of the biggest so-called “socially-conscious” funds hold questionable holdings. Let’s go through a few examples of the past:

  • The iShares ESG MSCI USA Fund (ESGU) held shares of ExxonMobil (XOM).
  • Similarly, TIAA-CREF Social Choice Equity Fund (TISCX) held shares of French oil company Total (TOT).

  • Leading ESG funds held Alphabet (GOOGL), Facebook (FB) and Amazon (AMZN), which have been accused of collecting private data and creating monopolies, and developing addictive services.

The list goes on: McDonald’s (NYSE: MCD), Chipotle Mexican Grill (CMG) and Starbucks (SBUX) have been accused of all kinds of evils.

Tesla, a darling stock owned by many “socially conscious” funds because it makes environmentally friendly electric cars, also produces gigantic amounts of toxic waste, not to mention the devastating effects of mining rare earth that gets used in electric batteries.

See how complicated this is?

The Forum for Sustainable and Responsible Investing claims that “a growing number of academic studies have demonstrated that SRI mutual funds perform competitively with non-SRI funds over time.”

That may be true, but since other studies show that vice stocks investors outperform virtuous stocks, they may not be comparing apples to apples.

So again, what’s an investor to do? Ultimately, only you can decide what you feel comfortable investing in.

Investing in vice stocks does not mean investing in lying, stealing or cheating. These are perfectly legal and sometimes highly controlled companies (whether or not you like their products or hmmm… “services” is a whole different subject), who employ many respectable employees who need to make a living, pay their rent and raise kids.

We are aware that this topic touches on some deeply-rooted political, religious and personal topics, and our point is not to go there.

This is an extremely complicated complex that should not be oversimplified (or politicized).

We simply wonder: if you make money in vice stocks and pay your bills, put food on the table, or invest to retire one day, is that such a bad thing?

Phil Zeltzman, DVM, DACVS
Meredith Jones, DVM
Co-Founders of Veterinary Financial Summit

* Of course, the authors do not endorse any of the securities mentioned.
In addition, past performance is not a guarantee of future results.
Finally, the authors would like to reassure their faithful members: they do not indulge in any of the vices mentioned above.